march 6, 2010
Budget 2010: The State Takes a Back Seat
Should fiscal consolidation take priority over everything else?
T
he big picture in the Union Budget for 2010-11 is that the
United Progressive Alliance (UPA) government continues
to push ahead with a strategy of making middle/upper
class consumption drive growth, while it gradually abdicates its
role in channelling and financing investment. Those who are on
the margins of the growth process will have their welfare pro-
grammes, but these are only for alleviation and they too are sub-
ject to the god of fiscal deficit reduction.
Consumption much more than investment has always fuelled
the Indian economy, and it has been domestic consumption more
than anything else that has helped prop up growth during the
global financial crisis. During 2008-09 and 2009-10, cuts in indirect
taxes, higher government spending and implementation of the
generous salary recommendations of the Sixth Pay Commission
(SPC) have been key to boosting government and private consump-
tion demand and neutralising the impact of a fall in investment.
One would have thought that the government would stay with
this strategy for a while and not be swayed by all the noise about
exiting the stimulus. One would have also thought that the
government would simultaneously focus on fighting inflation.
Yet, Budget 2010 has done exactly the opposite.
As part of a larger and continuing strategy to make middle/
upper class and elite consumption drive growth of the Indian
economy, Union Finance Minister Pranab Mukherjee has given
a measure of direct tax concessions to medium/high income
earners. Since such giveaways also mean that the fiscal deficit
will widen, the finance minister has simultaneously raised the
more regressive indirect taxes. Sooner or later the excise duty
cuts of 2008-09 would have had to be restored, but the need to
“exit” this year needs to be questioned. The bigger mystery is
why in a year of high food inflation, Budget 2010 took the decision
to effectively raise prices on petroleum products – a hike that
is bound to work its way through the system and lead to even
greater pressure on prices. There can be only one explanation for
a decision that is as insensitive as it is irrational – the fiscal funda-
mentalists decreed that the loss in direct tax revenue had to be
compensated by price/duty hikes.
Over the years, bit by bit, the UPA government has taken the
lead in giving substantial concessions in direct taxes. The biggest
handout and perhaps the single largest contributor to a widening
of inequality in recent times was the lifting of taxation of dividends
Economic & Political Weekly  EPW   march 6, 2010  vol xlv no 10
early in the first term of the UPA government. This played a huge
role in attracting foreign capital, boosting the stock market and
fuelling consumption via the wealth effect. In its second term, in
the very first year, there was the abolition of a surcharge on those
earning more than Rs 10 lakh in the 2009-10 Union Budget (an-
nual loss to the exchequer: Rs 10,000 crore) and this year the
widening of tax brackets (loss: Rs 26,000 crore). The government
evidently hopes that the beneficiaries will spend more and thereby
contribute to growth, though there is the small matter of higher
excise duties and inflation neutralising any such boost to
personal consumption. The finance minister is surely aware that
such tax breaks will also sabotage the Direct Tax Code (DTC) even
before it is introduced in 2011. The DTC’s draft proposals on
personal income tax were of low rates combined with removal of
exemptions. We have already moved in the direction of the first
without any of the second, which means that it will be impossible
to introduce a regime of low rates and limited exemptions when
the DTC is put into place next year.
Budget 2010 was immediately applauded for its efforts to re-
turn to the path of fiscal consolidation. The fiscal deficit is to be
brought down from 6.7% of the gross domestic product (GDP) in
the revised estimates (RE) for 2009-10 to 5.5% of GDP in 2010-11.
The more perceptive observers have, however, pointed out that
even if this objective is realised it will be the result of one-off
factors and that there is also a fair amount of over-optimism and
under-budgeting, both of which could waylay the fiscal deficit
reduction drive. The fact that there will be no loan waiver or
payment of SPC arrears will help the fiscal deficit drive but they
are one-off gains. The projected Rs 45,000+ crore collections
from further privatisation and auction of 3G spectrum are both
optimistic numbers and are another set of one-off phenomena.
The under-budgeting is the absence of any provision for imple-
menting the proposed Right to Food Act. (Of course, the right to
food scheme can be formulated in such a manner that it will
involve no increase in expenditure – i e, it will be the current
public distribution system in another name.)
The push to middle and upper class consumption and the
simultaneous obsession with the fiscal deficit does not mean
that Budget 2010 has altogether ignored government spending.
The finance minister has been careful to see to it that combined
allocations to the Central Plan and assistance to the State Plans
7
editorials
will grow by 18.4% (as against 14.5% according to the 2009-10 RE).
Yet, where capital outlays are concerned, the crucial item of Plan
capital expenditure will increase by just 14% in 2010-11, com-
pared to a 25.5% jump in 2009-10 (RE), the year of the stimulus. This
is in keeping with the government withdrawing from investment
activities and pushing ahead with public-private partnerships.
Beside the Point
The Economic Survey 2009-10 seeks to promote business confidence and the pet ideas of the finance ministry.
N
ever mind the real state of the economy; the point is to
get the “India Shining” elite all excited and elated. That
is what the Economic Surveys of recent years have ped-
dled. The Economic Survey 2009-10 continues in that mould.
It talks of the government’s policymakers as having taken a
“calculated risk” in the provision of the fiscal stimulus amidst
the global financial and economic crisis. The fact, however, is that
they first took recourse to loose monetary policy. But that was
like “pushing on a string”, as the good old economics textbooks
used to put it, and all attempts to stimulate the economy through
easing liquidity did not quite manage to resume the flow of
credit. They were then left with little choice in the matter, but
took on the fiscal stimulus only after China, the US, and the UK
showed the way. In referring to the fiscal stimulus as a “calculated
risk”, Indian policymakers are signalling that they intend to
get back, as soon as possible, to business-as-usual. However,
that will depend on the revival of private investment-cum-elite
consumption-driven growth.
Elite consumption has already revived, thanks to the “wealth
effect”, which has generated a tendency for consumption to
grow even in the absence of the growth of incomes, due to rising
asset prices. International capital flows to emerging markets,
including India, returned since March last year, leading to
another stock market bubble, as also, credit-financed real estate
investment, which have, together, spurred elite consumption via
the consequent wealth effect, in turn reviving economic growth
in these countries. The fiscal stimulus too has largely boosted
consumption demand. The government, however, is anxiously
awaiting the revival of the growth of private investment, which
will be crucial in deciding the pace of the rollback of the
fiscal stimulus.
Advance estimates place the growth of real GDP in 2009-10 at
factor cost at 7.2% despite a negative growth of (-)0.2% in agri-
culture, forestry and fishing. If these estimates are anything to
go by, the revival is a result of the step-up of growth in mining
and quarrying (8.7% in 2009-10 compared to 1.6% in 2008-09),
manufacturing (8.9% compared to 3.2% last year), and electricity,
gas and water supply (8.2% compared to 3.9% the year before).
The setback in agriculture is surely the result of the impact of
the failure of the south-west monsoon on the kharif crop, but,
there is, yet, no indication that any serious effort is being made
to arrest the sharp deceleration in agricultural growth since
the mid-1990s.
8 march 6, 2010  vol xlv no 10  EPW   Economic & Political Weekly
Less than a decade ago total central government capital expendi-
ture was 3.5% of GDP (2004-05). On the UPA’s watch, this
has halved and while there was some recovery last year it is still
budgeted to be only 2.2% of GDP in 2010-11. All this is consistent
with the trend of the State gradually vacating the space it has
traditionally occupied.
Chapter 2 of this year’s Economic Survey, titled “Micro-founda-
tions of Inclusive Growth”, thinks that India is rapidly returning
to the “buoyant years preceding 2008” and that “the nation’s
medium- and long-term prognosis is excellent”; all that is
required are “some important policy measures” that will take the
Indian economy on a “double-digit” growth path with a “rapid
diminution of poverty”. The learned in the Ministry of Finance
focus on the “micro-foundations of macroeconomic policy” and
promise some “thinking outside the box and taking an analytical
look at the base of policymaking in India”.
Now, one cannot go into all they say in their chapter 2, but it
is evident that this kind of economics is bereft of political
economy and history. Take, for instance, the discussion on the
food subsidy and the public distribution system (PDS). The
authors make a case for food coupons, nothing new, so we need
not recount all of it over here. Effective “targeting”, they argue,
is in reach with the Unique Identification (UID) system at hand.
The subsidy should have nothing to do with price control, for
“prices are best left to the market”. Further, there is no need for
separate PDS outlets; the poor will get their “monthly ration of
coupons” which they can take to buy the food anywhere in the
open market. However, at least they feel that there is a need to
continue with the buffer stocking of essential foodgrains and
releasing them in times of shortage. Thus, open market sales of
the buffer stocks become the only way of maintaining price
stability in the “free market” (including a futures component) in
essential commodities.
Now, even as they go about making a case for the virtual
dismantling of the PDS in India, the pedants of the Ministry of
Finance do not think it necessary to look critically at its evolution
and growth since 1939. The role it played during the drought years
of the 1960s, what has happened to it with targeting and dual
pricing from 1997 onwards, and in the context of the private trade
being given a free hand and inter­national prices affecting domestic
prices, all of this does not seem to be of any consequence to them.
Instead of seeing the UID system as a panacea for taking care of
the errors of exclusion and inclusion in targeting, it may have
been worthwhile to examine the main reasons for exclusion of
“poor” households after the introduction of targeting, as also the
cases of the PDS in Kerala before the advent of targeting, and the
case of Tamil Nadu, which persists with a near-universal PDS that
functions quite well. After all, food security is far too important to
leave to greedy profit-seekers to deliver.