The Annual Report of the Reserve Bank of India makes a fair assessment of the prevailing economic environment in India. The slowing economy and raging inflation are indeed the major concerns. In voicing its concern about limited fiscal and monetary policy space, the risk of twin deficits on macroeconomic, financial and exchange rate stability, the need to switch expenditures to cut down the revenue deficit and enhance capital expenditures to strengthen infrastructure, RBI has refocused imperative policy initiatives which most observers have been urging the government to undertake for quite some time. While there are no two opinions on what is required to be done, everyone is waiting for a policy break from the government.

RBI starts by saying that the deceleration in growth seen in Indian economy is due to a combination of international and domestic factors. While this is correct, blaming the global environment only helps the government to pass on the buck, provides an alibi for inaction and an opportunity to attribute our own sins to ?global factors?. Surely, the economic problems of today have to do more with our own keenness to score self-goals and much less to do with global environment. We frittered away the gains of four years of fiscal consolidation from 2003-04 to 2007-08. The fiscal consolidation during these years was substantial, due mainly to a combination of buoyant economy and technology-backed tax administration. The subsequent years, however, have seen unsustainable fiscal expansion and this started with the implementation of the pay commission recommendations, loan waivers and expansion of MGNREGA from 200 to 600 districts in the 2008-09 budget. Of course, it has become a standard practice now to blame the slippage on the global financial crisis though the expansion programme was initiated in February, well before the collapse of the Lehman Brothers in September 2008. There were two important features of this ?stimulus?. First, much of the expansion was for increasing consumption and not investment. In fact, the expansion directly added to GDP to trigger a fast revival. Second, much of the expansion was irreversible so that elevated levels of public spending continued in the succeeding years.

A careful perusal of the events shows that slowdown in the economy was a natural consequence of the fiscal expansion initiated right from 2008. The large-scale increase in public spending initiated in the budget of 2008-09 was followed by policy inaction to correct for the sharp increase in the price of crude oil in July 2008 and this resulted in the explosion of oil subsidies. These, combined with substantial election spending by political parties, did help the economy to recover swiftly. The GDP growth, which had shown a steady deceleration, recovered within two quarters of the global financial crisis. The growth rate, which had decelerated to 6.7% during 2008-09, recovered to record 8.4% each in the next two years.

While the fiscal expansion helped the economy to soft-land during the crisis, the seeds of slowdown were sown in the consumption-led growth revival itself. Government consumption-led growth cannot be expected to increase the growth potential in the medium and long term. The continued proliferation of subsidies and transfers and decline in the tax-GDP ratio did not permit fiscal consolidation. As the spectrum auction brought in huge revenues, there was complacency and no compulsion to undertake structural reforms. Continued fiscal expansion and elevated inflation and the lack of policy space prevented RBI from reducing interest rates. The resulting decline in savings and investment and erosion of financial savings in the household sector have reduced the potential growth of the economy. Continued high price of oil and the preference to buy gold by the households in the absence of investment options yielding positive real rate of return combined with the weak external demand for India?s exports have led to large current account deficits and sharp depreciation of the rupee.

In this environment, the policy inaction on the fiscal front and lack of initiative to create an investment climate continues to hurt the economy. There are likely to be slippages on both the revenue and expenditure fronts and there is no basis to hope that revenue from spectrum auction and disinvestment will cover the shortfall. The much-awaited tax reforms are not likely to take place in the short term. The introduction of the Direct Taxes Code will be delayed as the finance minister has taken the decision to review it. The introduction of the Goods and Services Tax cannot be done quickly as it entails negotiations and bargaining on a number of issues and there are 31 parties involved in bargaining (28 states, two Union Territories and the Union government). There is also a general impression, which is also expressed in RBI?s Annual Report, that GST is a panacea for all fiscal ills and this is clearly misplaced. It would be impossible to implement a ?flawless? GST because the emerging gorilla will be the result of intense bargaining. The gains to the economy estimated by the NCAER study are vastly exaggerated too, partly because the structure of GST that will be implemented will be far from ?flawless? and there are methodological problems that overstate the gains. Waiting for these reforms is not an option now and immediate initiative to achieve fiscal correction is the need of the hour. Waiting longer for increasing diesel prices will only increase the subsidies. The government should also initiate measures to recover the large amount of revenue stuck in courts as arrears through negotiations.

The issue is of utmost urgency as every passing day the situation has been getting worse. The fear of a downgrade and the need to get prepared for this eventuality expressed by the RBI Governor recently is not a mere caution; it displays a sense of exasperation. It is frustrating to see that the political parties are least concerned about the state of the economy or the state of the poor; they are busy pursuing their own agenda. The issue is no longer policy paralysis; it is one of policy reversals! Political chaos and policy reversals create enormous uncertainties, and, with no decision on any of the economic problems in sight, the fear of a downgrade is real. Do we have to score these self-goals?

The author is director, NIPFP. Views are personal. Comments at mgovinda.rao@nipfp.org.in