A fair comment on the budget is that it could have been worse in terms of the plausibility of its numbers.
Much remains to be done to improve the quality of expenditure and the transparency of India’s budgeting process.
The Government of India presented its interim budget on 1 February 2019, with the general election roughly three months away. It did not present a full budget, although, technically, there are no rules that prevented it from doing so.
The government announced several schemes for the welfare of farmers, unorganised workers, and salary earners, among others. Farmers will be paid cash support, and there is a pension scheme for unorganised workers. Those earning Rs 5 lakh of income will pay zero income tax because the income tax rebate offsets the tax they would pay on an income above Rs 2.5 lakh at 5 per cent.
Standard deduction, which reduces taxable income, has gone up. Further, the limit for deducting tax at source from interest on bank deposits and rents from property have gone up. Detailed tax proposals have been deferred for the full budget that will be presented by the incoming government. Therefore, mercifully, the long-term capital gains tax on stock market investment gains stays the same. At least for now.
Some of the proposals may be debated for their timing. However, income support to farmers and the pension scheme for unorganised workers are both necessary measures. They come on top of the healthcare scheme the Prime Minister had announced in August.
Support to the poor from the government is inevitable in India. They cannot be left to the mercies of the market forces. In an e-symposium on India more than two years ago, the World Bank noted that at least half of those deemed non-poor in India are vulnerable to slipping into poverty. Therefore, government support is essential.
Whether the farmers’ income support scheme will make farming viable is a different question. Indeed, it is the wrong question. The income support is a recognition that farming is unviable, especially with small farm sizes. Sustainably viable farming is difficult worldwide and almost impossible without subsidies.
Corporate Tax Collection To The Rescue
The important question is how the budget pays for all these schemes. The government had projected a fiscal deficit of 3.3 per cent in February 2018 when it presented the budget for 2018-19. Due to widespread reporting of poor collection of the goods and services tax (GST) and a higher outlay for bank recapitalisation, it was expected that the government would announce a fiscal slippage of 20 to 40 basis points of gross domestic product (GDP). That is, the revised estimate of the fiscal deficit for 2018-19 was expected to be around 3.5-3.7 per cent of GDP. In the end, the government pegged the revised estimate at 3.4 per cent of GDP and maintained the same fiscal deficit for 2019-20, too.
How did it manage this?
Income tax collection from businesses has exceeded the budget. Service tax receipt was expected to be zero since GST had been introduced. However, the government is still showing more than Rs 9,000 crore as service tax collection in its revised estimate. Finally, the government transferred less in tax revenue to states than originally budgeted. All of these combined to offset the nearly Rs 100,000 crore shortfall in GST collection.
In terms of non-tax revenues, the government collected more dividend from the Reserve Bank of India. Under the heads ‘Petroleum’ and ‘Roads and Bridges’, revised estimates of non-tax revenues are substantially higher, offsetting the shortfall in spectrum fee collection.
In terms of capital receipts, the government has kept the original budget estimate for receipts from disinvesting its stake in public sector enterprises. Ahem. If the Life Insurance Corporation buys government stake in public enterprises, or if one government-owned enterprise buys government stake in another, it is not disinvestment.
Further, how does one account for the contingent liabilities of the Life Insurance Corporation if these investments do not yield returns adequate to meet its future obligations? Will it not, then, devolve on the government of India?
Finally, it borrowed slightly less from the market but more than made up for it by borrowing from small savings schemes. The latter entails higher interest costs. The government’s small savings costs offer higher rates of return to savers with lower risk than banks. Why wouldn’t savers choose them? This is bizarre competition and an expensive source of funding for government expenditure.
Capital Expenditure Is Off-Budget
In terms of expenditure, the government’s revised estimates are higher by around Rs 15,000 crore than the original budget estimates. Capital expenditure is even higher in the revised estimates by around Rs 16,000 core. It has not cut back on capital expenditure to achieve the modest fiscal slippage it had achieved. It had managed to do so by substantially reducing ‘Other Transfers’ to states and Union territories.
Off-budget spending – especially capital expenditure (‘Resources of Public Enterprises’ under ‘Statement of Expenditure’) – is higher by Rs 160,000 crore than budget estimates (Rs 6.4 lakh crore versus Rs 4.8 crore, approximately). Of that, Rs 120,000 crore is capital expenditure because of the Food Corporation of India. Public enterprises have borrowed directly from the market without routing them through the budget.
Is The Worst Over For India’s Government-owned Banks?
In 2018-19, the government’s revised estimate is higher by Rs 40,000 crore than the budgeted expenditure for recapitalising public sector banks (Rs 110,470 crore versus Rs 67,250 crore). But, in 2019-20, it has only budgeted Rs 2,832 crore. The government thinks that the non-performing loan crisis in the public sector is over and that it would not have to recapitalise them presumably.
On 31 January, the Reserve Bank of India released three government-owned banks from restrictions it had imposed on their business growth due to their poor capital adequacy and management.
Further, it was interesting to read that the Reserve Bank of India has data to show that its revised norms for recognition of non-performing assets announced nearly a year ago had led to better recovery and that the Insolvency and Bankruptcy code, too, had made borrowers come forward to settle their dues, albeit with haircuts.
Perhaps, it is possible that the government gets away with no recapitalisation of the banks it owns. That said, a big opportunity to reform the banking system has been missed in the last five years.
For 2019-20, the government expects the revenue deficit to be higher by 0.2 per cent of GDP (1.3 per cent versus revised 1.1 per cent of GDP for 2018-19) due to substantially higher interest charges, presumably because it intends to borrow a lot more money than it did this year to pay for the income support scheme for farmers.
Further, it expects corporate and personal income tax collection to be much higher. It is interesting (or puzzling?) that corporate income tax collection is higher despite the corporate profit-to-GDP ratio being as low as 2.8 per cent in 2018. It was 5.5 per cent in 2008.
Impact on inflation, interest rates, monetary policy and the currency
India’s 10-year government bond yield had gone up by around 25 basis points in the last month. This has happened despite the US bond yield going down because of a bizarre U-turn that the Federal Reserve had made in its monetary policy. This must be worrying the Reserve Bank of India and the Indian government. One feels that the budget math is not so badly-off that the bond market would push the yield higher further. One expects the yield to stabilize around 7.6% and even decline further. The inflation rate too is unlikely to be impacted much by the budget. Therefore, the Indian rupee will not weaken in the near-term vs. the US dollar.
The risk of further rupee depreciation will rise only if India has a fractured mandate in the Lok Sabha elections in May 2019, leading to a multi-party coalition which re-defines political and economic populism in a maximalist way.
Therefore, all told, the door for a rate cut by RBI in its February meeting remains open.
Puzzling Revisions To Economic Growth Estimates
The government on 7 January said that the real GDP growth in 2017-18 was as low as 6.7 per cent. Now, it estimates the number to be 7.2 per cent. Further, it has revised the real GDP growth for 2016-17 to 8.2 per cent. Until now, numbers showed that India’s growth slowdown had begun from the first quarter of 2016-17, well before the government demonetised currency notes of higher denomination in November 2016. Now, the data show no slowdown at all.
Year 2016-17 was one in which India’s bank credit growth and overall credit growth had slipped significantly. Yet, the economic growth is a respectable 8.2 per cent now. At the same time, last month, the Central Statistics Office had revised downwards the growth rates for the period 2004 to 2011-12. In those years, bank credit and overall credit rose at a much higher rate than in recent years.
More Transparency In The Budget Process
To sum up, off-budget expenditure by government-owned corporations, surprisingly healthy corporate tax collection (Is it a combination of an over-zealous tax department and data availability from demonetisation exercise and the introduction of GST?), and significantly higher borrowing from small savings schemes have made the budget numbers look more respectable than otherwise.
However, the next budget should have a higher allocation for cleaning up India’s statistical system so that reliable estimates of India’s macroeconomic aggregates are available. That might also enable us to interpret and read budget numbers more correctly. As of now, the only fair comment on the budget is that it could have been worse in terms of the plausibility of its numbers.
Fiscal deficit magnitudes, per se, may not matter much in an economy that is growing faster in nominal terms than the rate of interest. However, much more remains to be done to improve the quality of expenditure and the transparency of India’s budgeting process.
(Postscript: With a projected nominal GDP of around Rs 210 trillion in 2019-20, India’s nominal GDP in United States dollar terms should cross the 3 trillion mark in the next financial year).