India needs to reverse its protectionist stance in the budget; or else, Returning to a 7-8% growth trajectory will remain elusive
By M Govinda Rao
The new year brings in hopes of liberation and revival. With active cases of Covid-19 on the decline and the availability of the vaccine in the horizon, there is considerable hope that lives and livelihoods will return to normalcy soon. On the economic front, the growth performance in the Q2FY21 was much better than expected, and there is hope that the economy may revive to register positive growth in the fourth quarter and reach the FY20 level of GDP by the middle of FY23, if not earlier. There is a lot of expectation from the forthcoming Union Budget on triggering the necessary policy push for the accelerated revival of the economy. Both industry and services sectors are on the mend, and negative growth and non-petroleum exports have registered positive growth in December. The revenue collection from GST was the highest in December, at `1.15 lakh crore.
Budgets, besides presenting financial statements, provide policy signals. The speed of recovery and the trajectory of growth after normalcy is restored will critically depend upon the policy signals emanating and the direction of reforms in the budget. This year, while the pandemic has caused unmitigated disaster and economic activities have plunged to unprecedented troughs,the lack of fiscal space constrained the government from providing any substantial fiscal stimulus. In fact, public consumption expenditure declined by 22% in the second quarter. Thus, GDP growth from government administration and defence and other services, instead of leading economic revival, has contracted by 11.3% in the first half of the year.
This year’s budget presentation will be keenly watched for a number of reasons. First, the fight against the pandemic is still on and the vaccine distribution strategy in a large country requires fiscal support. Second, the pandemic has exposed the underbelly of poor health infrastructure, arising from historical neglect of the sector by governments, and has underlined the need to address this failure expeditiously. A considerable part of the required additional spending will have to come from state budgets as ‘public health and sanitation; hospitals and dispensaries’ is a state subject in the Constitution. However, the Union government may have to substantially increase outlay on the centrally sponsored scheme—the ‘National Health Mission’.
Third, the impetus to growth has to come from increasing public spending, but constrained fiscal space will continue to restrict the government from loosening the purse. Fourth, in a revenue constrained economy, fast-tracking disinvestment and strategic privatisation will be on the agenda. Last year, as against the target of Rs 2.1 lakh crore, the actual achievement was `13,884 crore. The coming fiscal year will present greater opportunities to fast-track strategic disinvestment, not merely to raise resources for revival but also to vacate the government’s involvement in non-strategic areas. Fifth, the road map towards fiscal consolidation set by the FRBM has completely lost its relevance due to the pandemic, and all targets and the road map will need to be revisited.
The Fifteenth Finance Commission has been mandated to make a recommendation on the issue, and the government, after due consideration, will have to present the revised restructuring plan and road map for fiscal consolidation. Sixth, the government will have to take into consideration the recommendations of the Fifteenth Finance Commission on tax devolution and grants to the states. Finally, the pandemic and the long periods of moratorium and restructuring provided in its wake have increased NPAs of the banks, particularly the public sector banks (PSBs). The financial sector, particularly the banking sector, has been crying for reforms in the interest of financial stability. The government can ill afford to delay the reform of PSBs any longer.
The fiscal stimulus, given by the Centre so far is just about 2.5-3% of the GDP, and in the next year, additional public spending will crucially depend on buoyancy in revenue collections. The record collection of GST of Rs 1.15 lakh crore in December and collection in excess of Rs 1 lakh crore every month since October provides some optimism. While a part of this increased collection is due to economic recovery and festival demand, improved compliance arising from the requirement for e-invoicing for businesses with turnover more than Rs 500 crore and better policing of tax evaders and fake invoicing also seems to have played a role.
From January 1, it is mandatory for the businesses with turnover more than Rs 100 crore to start the e-invoicing system. As the technology platform is stabilised, the revenue productivity of GST will improve, and this can open up the scope for rationalising the tax by the GST Council. Despite improved GST collections, tax revenue collection in FY21 is likely to remain subdued. In view of this, it is important for the government to unveil serious initiative for asset monetisation to finance higher public investment.
Fiscal deficit will continue to be high in the next year. In the current year, assuming that real GDP will contract by 7.5% and nominal GDP at 5%, the fiscal deficit of 3.3% estimated in the budget works out to 6% of GDP. After taking the stimulus measures into account, the current year is likely to end up with a deficit of 7-8%. The next year will see a surge in public spending if the postponed expenditures are taken up and, in any case, the deficit is not likely to be much lower than the current year even as the size of the GDP increases marginally. The government will have to rework the FRBM targets and revise the consolidation roadmap and the FRBM Act will have to be amended.
For the confidence of credit rating agencies and international investors, it would be desirable to make the fiscal deficit estimate transparent by including all off-budget liabilities. It would also help if the establishment of an independent fiscal institution like the Fiscal Council to monitor fiscal management and report to Parliament is provided for. There was some talk of modifying the fiscal targets in terms of range instead of point estimates, but that may result in the government always choosing the higher point in the range.
The most important policy correction needed now is to reverse in the budget the protectionist stance that which we have fallen into during the last four years. Returning to a 7-8% growth trajectory will remain elusive unless we change course now. Atmanirbharta has to be achieved by increasing competitiveness, not by perennially protecting inefficient industries. Measures like production-linked incentives are like erecting a scaffold rather than building a wall. The decision to refrain from joining the RCEP is retrograde and it is important to start negotiations with the new US administration to reverse the decisions to win back preferential trade agreement. Overvalued rupee and increased tariff protection have combined to dampen exports in the last few years and reversal of the stance is important to prevent more harm.
(Author was a member of the Fourteenth Finance Commission. Presently, he is chief economic adviser, Brickwork ratings. Views are personal)