APPEASE OR REFORM?
SIX ECONOMISTS ON WHAT TO EXPECT FROM THE NARENDRA MODI GOVERNMENT’S LAST FULL BUDGET BEFORE THE 2019 POLLS
Q: With falling revenues, slowing growth, rising inflation and crude prices, the government is clearly stuck between a rock and a hard place. What should its priorities be in the coming budget?
A: N.R. BHANUMURTHY There is a macroeconomic challenge in terms of achieving fiscal deficit targets while at the same time reviving investments, hence, growth. Two major shocks—demonetisation and GST—have disturbed the whole macro balance. Also, GST is still unchartered territory and there is no clarity on the total revenues it is going to mobilise, both under direct and indirect taxes. And with inflation firming up, there is little one can expect from the monetary policy in reviving investments. Some leeway will have to be provided on the fiscal front for undertaking major reforms. Else, we might see the ‘off-budget’ items! ADITI NAYAR The government is likely to utilise the available fiscal space to expand funding for social security and urban and rural infrastructure, instead of cutting taxes. AJIT RANADE The budget has five main priorities-jobs, rural/ agriculture to make sure farm incomes are up, reviving private investment, providing strong impetus for exports and, finally, continuing the NPA (non-performing assets) resolution of banks. There is also the broader issue of widening inequality, which needs to be addressed. A manifestation of that is the ratio of indirect to direct taxes which has gone up steadily in the past three years. In fact, the direction should be the opposite. More taxes should be collected from direct taxes such as income tax or wealth tax or capital gains and so on. The government must look at widening the tax net. DHARMAKIRTI JOSHI Problems such as slowing growth and revenue shortfall are transitory and will get sorted by next fiscal. Tax revenue should improve as GST rates stabilise and implementation glitches are sorted out. The global economy is in its strongest phase since the 2008 crisis, which will support our growth/ exports. That, along with the low-base effect of last year, can lift India’s GDP growth to 7.6 per cent in fiscal 2019. A big worry is crude prices as a sharp spike can upend
The BJP rules 19 states, so this is the best time to carry out agriculture reforms in a synchronised manner... it can be the Modi moment! ASHOK GULATI
the fiscal and external math, and stoke inflation. D.K. SRIVASTAVA The key question is whether the government would compromise on the fiscal deficit target of 3.2 per cent of GDP for FY2018. There are limits to adjustment on the expenditure side. Any cut on expenditure would also adversely affect the ongoing economic recovery. There may thus be a small slippage in the fiscal deficit target of say 20 to 30 basis points complemented by some expenditure cuts. For FY19, the government would have to rely largely on fiscal stimulus as with crude prices rising, inflation will come under pressure, and any monetary stimulus seems difficult with the central bank opting for a long pause on any cuts in the policy rate. ASHOK GULATI Job creation and farm distress should be high priorities in the budget, the last full one before elections in 2019. On farm distress, the solution does not lie with loan waivers but undertaking structural reforms, especially on the marketing side, which are overdue. The BJP now rules in 19 states, so this is the best opportunity for the Centre to carry out agriculture reforms in a synchronised manner. If the Modi government focuses on this, it can give rich returns both economically and politically. It can be the Modi moment! Q: Do some sectors need a push to give the economy a lift? What about the jobs crisis? A: N.R. BHANUMURTHY The 2018-19 budget could be a populist one, a measure of which is job creation (like increasing minimum work days from 100 to 150 under MGNREGS as some states have done). Another area is rural infrastructure. The government has revamped the rural schemes, but implementation still needs a big push (recent reports suggest large unspent balances in most central schemes). Next is MSMEs, but this sector can grow only if the large enterprises are expanding and also when they have access to sufficient funds. For this, banks have to be willing, for which the recapitalisation plan must be urgently implemented. There is still no clarity on the last which has put the banks too in waitand-watch mode. ADITI NAYAR Higher fund allocation towards infra sectors such as affordable housing, roads, renewable energy, railways and ports would spur investment and also give a push to job creation. Easing of bottlenecks for exporters would also help boost the job-intensive export sector. AJIT RANADE The four labour intensive sectors are textiles (including leather and footwear), construction, agriculture or agro processing and tourism. Some kind of employment subsidy linked to jobs and jobs creation is needed. There are two million vacancies in sanctioned posts of the government—local, state and central government. We should start recruiting. Also, incentivise women’s participation in the workforce (it has dropped quite a bit in the last decade). India’s ease of business ranking has improved but key areas, like inspector raj, remain—the GST anti-profiteering clause is an example. Make in India needs a multi-pronged approach—capital, electricity and a reduced inspector raj, to name a few. DHARMAKIRTI JOSHI To increase growth and jobs, labour-intensive sectors will need exceptional impetus. The first to focus on is construction (rural roads, low-cost housing), for it has the highest employment intensity after agriculture. The numbers employed in construction are also more than in manufacturing. About two-thirds of the labour force used in construction is unskilled or semi-skilled, a key characteristic of people migrating from agriculture, so it’s a synergistic ruboff. The second focus area—labour-intensive export sectors such as leather, garments and gems and jewellery, which are currently underperforming despite a global upturn. D.K. SRIVASTAVA Sectors that need fiscal support are agriculture, construction and infrastructure, and manufacturing. These have the ability to create jobs for both skilled and unskilled labour and would have significant multiplier effects. ASHOK GULATI Agriculture cannot create more jobs. In fact, people need to move out to nonfarm jobs. It is estimated that from 2004 to 2016, 44 million people moved out of agriculture, but it still engages the largest proportion of the labour force, almost 47 per cent. More jobs can be created in rural areas to build agrivalue chains, e.g. from raw cotton to ginning to yarn to fabrics to garments etc.; upgrading agri-marketing structures; building rural roads, irrigation network etc. These investments will also help agriculture improve its profitability. That will help reduce poverty faster.
When there is a bounty, prices fall. When there is a drought, incomes fall. Either way, the farmer needs income insurance support AJIT RANADE
Q: How can the government allay the rural anger provoked by agricultural distress? A: N.R. BHANUMURTHY The root cause of the agricultural distress is the collapse of price mechanism in areas where production was higher (e.g. Madhya Pradesh). While the states have major responsibility here (some like Andhra Pradesh and MP have successful policies), the Centre has a role in strengthening commodity exchanges. Unfortunately, this is caught in a regulatory maze with very limited competition. ADITI NAYAR Higher allocations for existing schemes related to crop insurance, NREGA, and other social security measures, as well as investment in creating infrastructure related to cold chains etc. is needed. AJIT RANADE The electronic integrated national agriculture market (ENAM) has not taken off, and the APMC (agricultural produce market committee) is still a big hurdle even though three different model acts have come in the past three years. The other is the MSP (minimum support price) regime. When there is a bounty, the price falls. When there is a drought, incomes fall too. Either way, farmers need support in the form of income insurance. Onethird of all our agriculture is done by tenant farmers who have no rights on the land. Therefore, they can’t get capital. Also, please remember that we need to increase farmer income, not farm income. We also need to move towards valueadded agriculture—not potato but potato chips, not groundnuts but packed groundnuts. The whole ‘farmtofork’ concept needs attention. DHARMAKIRTI JOSHI Remunerative prices to farmers and procurement at the announced MSPs. Agriculture is going through a structural shift, with horticulture exceeding foodgrains production for the sixth straight year. Inadequate cold storage and transportation facilities have only led to wastages, high price volatility and poor returns, especially in vegetables where price volatility is high and realisations low. D.K. SRIVASTAVA An insurance scheme to ensure minimum incomes for farmers. This is because farmers suffer both from output shocks and price shocks. ASHOK GULATI Remove glitches in flagship programmes, especially in crop insurance (Pradhan Mantri Fasal Bima Yojana), irrigation (Long Term Irrigation Fund and micro irrigation fund) and the dairy development fund. Second, effective monitoring and dovetailing of agri trade and tariff policy with MSP policy. Third, high priority to agrimarketing reforms to create seamless movement of agriproduce throughout India. Success of eNAM (electronic National Agriculture Market) depends on a system of assaying, grading, storage, right down to dispute settlement. A major impetus is needed to link farmer producer organisations (FPOs) to agri markets through ‘Operation Veggies TOP’ (tomatoes, onions and potatoes) on the lines of ‘Operation Flood’, linking FPOs to processors and organised retailers, bypassing the mandi system. Q: How much leeway does the government have to increase spending on rural projects or infrastructure? A: N.R. BHANUMURTHY The 3 per cent fiscal deficit target is no more sacrosanct, especially on the back of two major policy shocks. These targets need to be reworked and I hope the 15th Finance Commission will do this. Also, we need range targets so that the government can absorb the unanticipated shock. On rural infrastructure, the focus must be on completion of the many pending projects. Allocation alone isn’t enough.
ADITI NAYAR Every 10 basis points of expansion in the GoI’s fiscal deficit to GDP ratio would allow for extra spending of Rs 185 billion in FY2019. Budgetary allocations are likely to be supplemented through extrabudgetary resources such as market borrowings of central PSUs as well as funds from the National Investment and Infrastructure Fund (NIIF). AJIT RANADE In India’s kind of development, we can afford to have a high fiscal deficit, because the assets that we create out of this spending will be used by future generations also, and that generation too bears a part of the burden. In that sense, deficit financing makes sense. Of course, we should try and keep the revenue deficit low. Revenue deficit to fiscal deficit ratio climbed to 81 per cent in 2010 and has now come down to 57 per cent. The figure should be monitored. But if the spending is going into creating assets, we have the leeway to offer 3.7 per cent or so. We have a Moody’s upgrade, so the rating agencies are also upbeat about the debt serving capacity of the country. DHARMAKIRTI JOSHI The fiscal deficit target for next fiscal is 3 per cent of the GDP. Although revenue buoyancy should improve as growth picks up and GST stabilises a big spending push would require additional resources. In my opinion, a big push to rural/ infra will require extraordinary effort at raising nontax revenues—be it from divestment or sale/ lease of other assets with the government such as real estate. D.K. SRIVASTAVA The available fiscal space is limited. Schemes will have to be designed for larger impact and lower fiscal cost. ASHOK GULATI If the government moves aggressively towards direct benefit transfer of food and fertiliser subsidies, it can save at least Rs 30,00040,000 crore, which it can invest on various schemes mentioned earlier. These things can be done with a year’s time span, provided there is a champion within the government who has the ear of the Prime Minister and can steer reforms till they deliver. Q: Would you advise fiscal discipline or loosening the purse strings at this juncture? A: N.R. BHANUMURTHY Unfortunately, FRBM (Fiscal Responsibility and Budget Management Act) is the most misunderstood concept in India. Fiscal deficit target is not the only component. FRBM as a concept suggests expenditure switching, especially from consumption to capital, and it has three targets: revenue deficit, fiscal deficit and public debt. A slowing economy certainly needs a fiscal push and the government has given some stimulus in the form of reduction in taxes (oil and GST). I would prefer the stimulus through taxes as they are easily reversible and also help in adjusting to the new tax regime. ADITI NAYAR Economic growth is expected to accelerate in FY2019, after the economy adjusts to the structural reforms of the last 15 months. Therefore, a sharp rise in expenditure to prop up economic growth may not be warranted, particularly given the uptick in inflation readings. But given the continuing uncertainty regarding revenue buoyancy, we do not expect the budget to stick to the previously announced fiscal deficit targets. However, a sizeable slippage from the fiscal consolidation path may further harden bond yields, which have risen sharply in recent months. This would inflate the government’s interest payments, which already usurp a substantial portion of revenue receipts. AJIT RANADE Fiscal discipline is announcing a target and sticking to it. It does not mean mindlessly going to 3.5 or 3 per cent (of the GDP). If 3.5 per cent is what the country requires, announce that and stick to that. That is fiscal discipline, and not mindless cutting of costs. DHARMAKIRTI JOSHI Fiscal prudence has been the hallmark of the Narendra Modi government’s policies and it should stick to it in this budget as well. This has provided a lot of comfort to market participants, especially foreign investors. The recent concerns on fiscal slippage have spooked the bond market and raised the borrowing cost of the government. Sticking to fiscal discipline, and that too in a preelection year budget, will send a positive and strong signal to all. D.K. SRIVASTAVA Marginal relaxation in the fiscal deficit target may be acceptable but any undue relaxation close to elections would send wrong signals to the international investing community. ASHOK GULATI Prudence and wisdom will lie in avoiding giving freebies. It would be better to invest that money in rural areas with a focus on agriculture. Also, changing certain laws, especially of APMC (Agricultural Produce Market Committee) and the ECA (Essential Commodities Act), will help to boost agriculture. Fiscal discipline is important to maintain overall confidence in the economy’s management.
Q: What can the finance minister do to get the private sector to invest? A: N.R. BHANUMURTHY For this, the balance sheet issues in both banks and corporates must be urgently addressed. While the Insolvency and Bankruptcy Code (IBC) is expected to take some time to stabilise, urgent recapitalisation of banks is the need of the hour. The problem part is coming up with a plan in terms of implementation. ADITI NAYAR Government spending on infrastructure would help trigger investment by the private sector. Nevertheless, private investment is expected to remain constrained in the next 23 quarters, because of factors such as moderate capacity utilisation and availability of brownfield distressed assets. Many Indian companies remain highly leveraged, predominantly in the steel, infrastructure, construction, real estate and telecom space. Another constraint is the inability of public sector banks (PSBs) to fund an investment recovery, given the stress in their balance sheets. AJIT RANADE A new industrial policy is on the cards. It’s not related to the budget but will surely help. Secondly, reduce corporate income tax to 25 per cent. There is a move to eliminate the dividend distribution tax, which will be helpful too. GST also should be reduced to one
Urgent recapitalising of banks is the need of the hour. The problem is coming up with a plan to put it into action N.R. BHANUMURTHY
or two rates. The burden of indirect taxes should be much more on the industry. Private investment should be growing at 15 per cent per annum. It is not even at 2 or 3 per cent. DHARMAKIRTI JOSHI The next fiscal will be better in terms of overall investments. But a fullfledged recovery in the private investment cycle is unlikely because companies are preferring to focus on improving their capital structure than investing. This is visible in the falling debt/equity ratios and interest coverage ratios. In addition, the manufacturing sector has enough capacity headroom. A few segments where investment activity is likely to stay relatively healthy are roads, renewables, and power transmission and distribution. Urban infrastructure and affordable housing can also attract private investments over the next couple of quarters. D.K. SRIVASTAVA The main hurdle is bank NPAs. The quicker this is addressed effectively, the better it would be for investment. ASHOK GULATI First change the rules of APMC and ECA to create an enabling environment for the private sector to invest in storage, and building value chains. Second, encourage PPPs in building agrimarkets, storage spaces etc. Encourage food processing through outright subsidies, say 2530 per cent of the capital costs. Third, encourage organised retailing to link with farmer groups. Fourth, monetise all input subsidies through direct cash transfers. But finally, make sure that agriculture is remunerative. If it is, it will automatically attract private investment. Q: There’s a clamour for lower tax rates. Is there room? A: N.R. BHANUMURTHY Lowering taxes could do two good things: act as a stimulus and also broaden the tax base. This is easier than going for expenditure stimulus. We should get the indirect taxes down to two slabs, if not one. On the direct taxes, while there is not much scope on the personal income tax, the FM might bring down the corporate tax. ADITI NAYAR In the earlier regime, excise duty and service tax collections used to display a substantial uptick in Q4 of each fiscal. Data for the ongoing quarter is hence crucial to gauge whether GST collections will also display a similar seasonality, to infer the actual revenue buoyancy after
the transition to GST. Moreover, an assessment of the extent to which the recent reforms have widened the tax base would indicate whether there is adequate fiscal space to reduce tax rates, for corporate or personal income tax or excise on fuels. A step-down in the corporate tax rate may be paired with removal of exemptions to maintain revenue neutrality. In indirect taxes, the GST Council will decide on changes in GST rates. AJIT RANADE Corporate income tax can go down to 25 per cent. We should increase the long term capital gains tax exemption from one year currently to three years, and give all asset classes uniform treatment—be it stocks, bonds, real estate, gold or private investment. Secondly, dividends can be taxed at above a certain level—up to Rs one crore or 10 crore. Third, because of demonetisation, several accounts have revealed disproportionate income. That is leading to widening of the tax net. DHARMAKIRTI JOSHI Indirect taxes are now under GST
The government is already weeding out poor performers in the administrative ecosystem. That mindset must be extended... DHARMAKIRTI JOSHI
and there is no scope for tinkering with rates any more in the budget. But there is scope for rationalising direct taxes. Corporate tax rates should be lowered to 25 per cent, as promised. Concomitantly, exemptions should also be pared to simplify the tax system. There is not much scope for cuts in the personal income tax rates without expanding the tax base significantly and checking evasion. The recent improvement in direct tax collections should give the government some confidence to reduce personal income tax rates for the lower- and middle-income groups. D.K. SRIVASTAVA GST needs further reforms including rate rationalisation and reducing the compliance burden. The corporate tax may also be reduced keeping in mind the tax rate cuts like in the US. But a simultaneous withdrawal of major exemptions and deductions may make the move revenue neutral. ASHOK GULATI Yes, the rate of taxation needs to be lowered but the base of tax paying individuals as well as corporates also needs to be expanded. There is ample scope for that in this budget. Q: What administrative reforms could the government usher in with this budget? A: N.R. BHANUMURTHY One for direct major benefit issue here transfer is the and use the of recent Aadhaar data this issue breach. urgently The government and ensure must there address is no recurrence of such cases. The ADITI procedural NAYAR constraints highlighted by some be addressed exporters ahead and SMEs of the after budget. GST could AJIT RANADE More than 95 per cent taxes are done electronically, no human being scrutinises them. That reform is already in place. DHARMAKIRTI JOSHI The government is already weeding out poor performers in the administrative ecosystem. That mindset must be extended to all departments. D.K. SRIVASTAVA Given the abolition of the plan process and plan grants, there is a case for reducing the size of the central bureaucracy in ministries dealing with state subjects. ASHOK GULATI IAS officers must be given at least three years in one posting so that they have reasonable time to prove their worth. Police reforms too are overdue. The government needs to bring in hundreds of subject experts. The economy is getting increasingly complex, and IAS officers have no expertise. They must be re-trained.