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Thursday, June 24, 2021

ExplainSpeaking: How Covid-19 impacted central and state govt finances in 2020

The crucial number to remember for analysing India’s GDP growth rate for the current financial year (FY22) is 9.7%

Written by Udit Misra , Edited by Explained Desk | New Delhi |
Updated: May 25, 2021 7:30:41 am
Several stores with to-let signs on a Pune street. (Express Photo: Pavan Khengre)

Dear Readers,

Next week, May 31 to be exact, the Union Ministry of Statistics and Programme Implementation (MoSPI) will release two crucial sets of data. One, the Gross Domestic Product (GDP) for the fourth quarter (January to March) of the last financial year (2020-21) and two, the Provisional Estimates (PEs) for the full financial year 2020-21.

The PEs are not the first estimates of GDP growth in FY21. The government has already released the First Advance Estimates (FAE) at the start of January and the Second Advance Estimates (SAE) in February-end. ExplainSpeaking wrote about both these estimates.

The FAE suggested that the GDP will contract by 7.7% in FY21. But more crucially, it also showed that India’s per capita GDP, per capita private consumption and the level of investments in the economy — all were expected to fall to levels last seen in 2016-17 or earlier.

The news only got worse with the SAE, which showed that the contraction in GDP would be 8% instead of 7.7%. But there was a silver lining.

While the GDP growth rate had worsened, the growth rate of Gross Value Added (GVA), which captures the value added (in money terms) by economic agents in each sector of the economy, was expected to get better. The GDP is arrived at by taking the GVA number, adding all the taxes earned by the government and subtracting all the subsidies provided by the government.

The SAE suggested that instead of contracting by 7.2% (according to FAE), the GVA would contract by only 6.5%. The change might have been marginal but the turnaround in GVA suggested a recovery in the Indian economy.

Of course, since then (end-February), India has witnessed a vicious second wave of Covid-19 infections which has made India earn the dubious distinction of being the worst affected country in the world — especially since official disease and death statistics continue to grossly understate the reality.

As such, it would be relevant to see what the Provisional Estimates suggest about GDP growth in the year gone by. This data would also provide the new benchmark for assessing economic growth for the current financial year.

The crucial number to remember for analysing India’s GDP growth rate for the current financial year (FY22) is 9.7%.

Here’s why.

According to an analysis presented by the International Monetary Fund’s Alfred Schipke on April 23, if one presumes a contraction of 8% in FY21 then a GDP growth of 9.7% in FY22 is just a statistical phenomenon or a “carry over” (as the IMF calls it). ExplainSpeaking has explained such an optical growth here.

In other words, the way to judge India’s GDP growth rate in FY22 is to look at how it is relative to the 9.7% number.

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To be sure, looking at the economic disruption due to the second Covid wave, almost all analysts and observers have already dialled down their forecasts for India’s GDP growth rate in the current financial year (2021-22 or FY22). In fact, there are some, such as the Moody’s rating agency and Oxford Economics (see chart below) who now believe India may grow at less than the 9.7% mark.

India: GDP baselines

Of course, the data to be released on May 31st won’t be about FY22. Still, the FY21 data will form the base for judging FY22 later on in the year.

In this regard, it is relevant to look back at how Covid impacted the government — both at the Centre and in the states — finances over the past year. A new working paper by Sacchidananda Mukherjee and Shivani Badola (both associated with the National Institute of Public Finance and Policy) provides some key takeaways.

First, let’s look at the impact on the Centre’s finances.

On the whole, the impact can be summarised as thus: On the one hand, the central government’s revenues (both from tax and non-tax sources) fell sharply, on the other, the government overshot its expenditure as well.

This resulted in the Union government’s revenue deficit (the difference between its revenue receipts and its revenue expenditure) as well as its fiscal deficit (a measure of its overall borrowing) rising sharply.

In its original intent, the Fiscal Responsibility and Budget Management (FRBM) Act expected the revenue deficit to be zero and the fiscal deficit to be limited to 3%. While the central government has been failing to meet either of these targets for over a decade yet, as chart below shows, the Covid disruption has meant that the government’s fiscal deficit (both at Centre and state levels) will remain bent out of shape for a few years to come.

The Covid disruption has meant that the government’s fiscal deficit (both at Centre and state levels) will remain bent out of shape for a few years to come.

Which was the bigger culprit — revenue collection or rise in expenditure?

“In the revised estimate of 2020-21, fiscal deficit exceeds the budget estimate of 2020-21 by Rs. 10.52 lakh crore…(The) revenue side of the Union budget shows a fall by Rs. 6.44 lakh crore in the 2020-21 Revised Estimates with respect to 2020-21 Budget Estimates. (On the) expenditure side… the Union budget exceeds the budget estimate of 2020-21 by Rs. 4.08 lakh crore,” states the NIPFP study.

In other words, 61% of the rise in fiscal deficit (as against what was imagined at the time of presenting the Budget in February 2020) was due to a fall in revenue and 39% was due to a rise in expenditure.

What types of revenues fell and why?

TABLE 1 below provides a sense of which type of tax revenues took the biggest hit due to Covid. Frankly, all types did barring the excise duties, but we will come back to that later.

Table 1: Union Excise Duties buck the trend thanks to phenomenal growth in cesses and surcharges

Type of revenue FY21(BE) vs FY21 (RE)
[Change in % terms]
Gross Tax Revenue —21.6
of which
Corporation Tax (CIT) —34.5
Taxes on Income (PIT) —28.1
Customs —18.8
Union Excise Duties (UED) 35.2
Goods and Services Tax (GST) —25.4
Non-Tax Revenue —45.3

Among the tax revenues sources, the worst-hit was Corporate Income Tax. This was expected at one level. Mukherjee and Badola point out that being most responsive to economic cycles, revenue from Corporate Income Tax (CIT) was expected to decrease the most as India witnessed a decline in economic activity.

The second biggest dip was in personal income tax collections. This too was expected as any fall in employment and/or wages and salaries is likely to impact Personal Income Tax (PIT) collections.

Reduced incomes also result in reduced consumption and as such, the third biggest hit was the taxes raised on consumption — the GST. People likely shifted from spending on luxuries to basic necessities, with the latter attracting a lower tax rate.

But the most interesting takeaway is the trend in Union Excise Duties, which grew by over 35% in a year that saw overall growth contracting by 8%. In fact, if one compares the UED collections in FY21 (RE) to those in FY20, the jump is an incredible 50%.

“The lower international prices of crude petroleum paved the way for the Union government to raise UED on those refined petroleum products which are not attracting GST, viz., petrol (motor spirit/ gasoline), diesel, Aviation Turbine Fuel (ATF),” state the authors.

But what is most noteworthy is that this massive jump in UED collection did not benefit the states since the Union government collected it by increasing cesses and surcharges on UED instead of raising the basic UED rate. The proceeds of cesses and surcharges are not shareable with state governments.

In fact, if one removed the cesses and surcharges, the UED collections for the past financial year would actually fall by 20%, instead of going up by 50%.

The table below provides another way to understand how far the cesses and surcharges helped the Union government while keeping the states out of the loop.

Cesses accounted for 65% of all the UED collection in FY21 — registering an annual growth of 187% (all data highlighted in red)

Cesses accounted for 65% of all the UED collection in FY21 — registering an annual growth of 187% (all data highlighted in red)

How were the state-level government finances impacted by Covid?

For states, NIPFP has used the monthly statements of accounts (Monthly Key Indicators) data provided by the Comptroller and Auditor General (CAG) of India. The authors have taken this data for 16 major Indian states (excluding Goa and Bihar) till December 2020, i.e., up to the third quarter (Q3) of 2020-21.

They state that “since revised estimates take into account actual figures of up to Q3 and project revenues and expenditures for the last quarter, we expect that the broad analysis presented in this paper will not be very different even when we have the data for the entire fiscal year 2020-21”.

The main takeaway was that, on the aggregate, “states have contained their revenue as well as capital expenditures to cope up with the revenue shock. However, the containment of expenditures was not sufficient to compensate for (the) contraction in total receipts”.

As a result, over the first 9 months (three quarters) of FY21, these states saw their revenue deficits exceed the budget target by almost 240% and their fiscal deficit by over 40%.

Even so the chart above also shows, state-level finances are not as badly hit as the Centre. And this has happened despite the fall in Union taxes resulting in lower tax devolution to states by 30 per cent.

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Beyond the aggregate, there were statewide variations — both in terms of revenues raised and expenditures made (See TABLE 3)

The table below shows that Andhra Pradesh and Punjab led by increasing their revenues and expenditure despite a slowing economy.

Annual Growth (%) in 2020 vis-à-vis 2019 (up to Quarter 3) Decreased (in %) Increased (in %)
Total Receipts Haryana (-21%), Gujarat (-19%), Karnataka (-18%), Maharashtra (-18%) and West Bengal (-17%), Uttar Pradesh (-15%) Andhra Pradesh (10%), Punjab (18%)
Total Expenditure Haryana, Jharkhand, Uttar Pradesh, Madhya Pradesh, Chhattisgarh, Odisha
Andhra Pradesh, Punjab, Tamil Nadu, Kerala

Around half of all state-level tax revenues come from what are called “Own Tax Revenues”. These include taxes such as state GST, state sales tax, state excise duties, stamps and registration fees, land revenues etc.

But barring Chhattisgarh, all other states witnessed a fall in their OTR collections up to Q3 of 2020-21.

If one looks at total receipts ( tax and non-tax) then except Andhra Pradesh and Punjab, all other states experienced a fall in total receipts up to Q3 of 2020-21 (vis-à-vis Q3 of 2019-20).

The worst affected in terms of a revenue shock were Haryana (-21%), Gujarat (-19%), Karnataka (-18%), Maharashtra (-18%) and West Bengal (-17%).

When it came to spending, states with better revenue collections (for instance, Andhra Pradesh, Punjab and Kerala, which did not experience a big revenue shock) expanded expenditures to boost economic growth.

There were some states such as West Bengal and Rajasthan that increased their expenditures to boost the economy despite witnessing a sharp decline in revenues.

“On total expenditure, Tamil Nadu, Rajasthan, West Bengal, Kerala, Telangana and Punjab have maintained growth despite falling revenues. Whereas, states such as Chhattisgarh, Haryana, Jharkhand, Uttar Pradesh, Madhya Pradesh and Odisha have reduced total expenditure between 10 to 20 per cent,” finds the NIPFP study.

If you have any queries or views, please share them on udit.misra@expressindia.com

Until next week, stay safe!

Udit

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