WHY BUDGET’S FISCAL PRUDENCE CLAIM COULD INTENSIFY GDP ROW

The interim budget seems to have placed a disproportionate reliance on growth in capital receipts

The Interim Budget 2019- has given major sops in terms of both taxes and non-tax transfers. The two most important announcements are the direct income transfer scheme to farmers with an annual outlay of ~75000 crore and an increase in taxable income threshold from ~2.5 lakh to ~5 lakh. This has been done without any increase in the fiscal deficit figure between revised estimates (RE) for 2018-19 and budget estimates (BE) for 2019-20. This merits a careful examination of the arithmetic behind the budget.

Because expenditure commitments made in the budget are unlikely to change, the sanctity of deficit estimates depends on receipts – revenue and capital – of the government for the next fiscal year. The revenue receipts in turn are a function of the estimated nominal GDP, a measure of annual income generated in the economy.

This year’s budget seems to have placed a disproportionate reliance on growth in capital receipts. Total revenue receipts grew by 20.5% between 2017-18 and 2018-19 RE. They are expected to grow by only 14.3% between 2018-19 RE and 2019-20 BE. The growth in capital receipts in these two periods is expected to increase from 2.9% to 10.9%.

Capital receipts include heads such as disinvestment earnings and transfer of accumulated capital from the Reserve Bank of India, something which this government might receive in the next fiscal year. To be sure, capital receipts need not follow a consistent pattern across years, as they can include a significant chunk of one-time earnings. This raises a question whether fulfilling recurring commitments on the basis of a one-time large growth in capital receipts is a wise strategy.

Let us now evaluate the tax collection performance of the government against its own expectations in earlier budgets. This year’s budget allows us to compare the revenue performance of the government for 2017-18 (actual over RE given in the previous year’s budget) and 2018-19 (RE over BE given in last year’s budget). There is a shortfall in Gross Tax Revenue in both these periods, the figure being 1.4 percentage points in 2017-18 and 1 percentage point in 2018-19. In 2017-18 the shortfall in income tax collection was 5.4 percentage points. After the budget date was advanced to 1 February instead of 28 February in 2017, RE figures for income tax collections have been the same as BE figures. This opens up the possibility of a downward revision in income tax RE figures for 2018-19 as well. If this happens, we could see an upward revision in the fiscal deficit figure for 2018-19 next year.

What explains this shortfall in income tax collections? This question is especially intriguing because the current government prides itself on its efforts to prevent tax evasion and expand the tax base by formalisation of the economy. Income tax collections by definition are a function of the total income in an economy. The technical equivalent for this is the nominal GDP for a given fiscal year. The difference between nominal and real GDP growth should come down with falling inflation in an economy. There has been a drastic reduction in inflation under the present government, with the benchmark Consumer Price Index growth coming down from 5.9% in 2014-15 to less than 3% in 2018-19. Between 2012-13 and 2015-16, the difference between nominal and real GDP growth and inflation were moving in an almost parallel trajectory. This seems to have changed in the last couple of years. The difference between nominal and real GDP growth is expected to be significantly higher than inflation growth in 2018-19. (See Chart 1)

Unlike the budget numbers, GDP numbers involve a fairly large amount of estimation. If the nominal GDP were to be lower, the fiscal deficit would be significantly higher. The counter-intuitive immunity of nominal GDP growth to falling inflation in the recent period is an important actor in preserving the fiscal maths of this year’s budget. At this point of time, it is also certain to add to the already growing controversy over GDP estimates in the country.

BUDGET 2019 ALLOWS A COMPARISON OF GOVT’S REVENUE PERFORMANCE FOR 2017-18 AND 2018-19