Opinion After Interim Budget 2024, hand the baton over to the private sector

It’s against this backdrop that this year’s interim budget needs to be assessed. Why was consolidation so important in India this year? To be sure, India’s economy is in a different cyclical position from the US. Despite strong growth in 2023-24, output remains below its pre-pandemic path and inflation is coming off. Prima facie, this would argue for continued fiscal support. But this presumes there are no fiscal constraints. Instead, as the last decade has revealed, emerging and frontier economies that operate macroeconomic policy without respecting constraints do so at their own peril.

In India’s case, the need to consolidate was both because of the elevated nature of starting points and its impact on inter-temporal public debt sustainability. Even in a strong growth year such as 2023-24, public debt to GDP is expected to increase from around 81 per cent of GDP to 83 per cent. A small increase in debt ratios is, by itself, not worrying in a world where public debt has gone up across the board. Instead, what is important is the signal it is sending: That India’s consolidated deficit is too large for peace times and will continue to weigh adversely on debt dynamics if not brought down. This is because even as the Centre was committed to reducing its fiscal deficit from 6.4 per cent of GDP last year to 5.9 per cent in 2023-24, state deficits are on course to widening (from 2.8 per cent of GDP to 3.1 per cent or even wider), such that the consolidated fiscal deficit will stay close to 9 per cent of GDP, and the broader public sector borrowing requirements even higher. If deficits stayed at this level, it would take 8 per cent real growth (11.5 per cent nominal) year after year just to stabilise public debt/GDP at elevated levels — let alone bring it down. On a more operational level, it would have meant that in a “polycrisis” world, India would have left itself with little ammunition to respond to future shocks.

So, four years after the pandemic and with the economy recovering, meaningful fiscal consolidation was the need of the hour, and the budget should be commended for doubling down on it. Both this year’s fiscal deficit (5.8 per cent of GDP) and next year’s target (5.1 per cent of GDP) were lower than markets had envisaged. What this front loading of fiscal consolidation by the Centre does is also to take the pressure off the states, which have just begun to find their capex mojo (state capex is growing at 50 per cent this fiscal so far) amidst some revenue shortages. More generally, in walking the talk of symmetrical countercyclicality, fiscal policy deserves a lot of credit.

With the need to reduce deficits uncontested, the goal should now shift to doing so in a manner that extracts the least cost on growth. This involves several principles. First, achieve the consolidation, as much as possible, by raising revenues rather than compressing expenditures. This is because expenditure multipliers tend to be higher than revenue multipliers. Second, asset sales need to be a key part of any revenue strategy because it is the least growth-impinging manner of reducing the deficit. Third, on the expenditure side, health, education, safety nets, and capex must all be preserved, and ideally grown — given the dualities in income and consumption — even as deficits are brought down.

Many of these principles were in play in 2023-24. Capex rose from 2.7 to 3.2 per cent of GDP (a tad less than budgeted) even as the deficit came down from 6.4 per cent to 5.8 per cent of GDP. This was, in part, possible because gross tax revenues rose to 11.6 per cent of GDP — the highest in 16 years — as direct taxes have surged this year. As a consequence, combined tax/GDP could cross 18 per cent of GDP in 2023-24 for the first time.

That said, in 2024-25, much of the compression is budgeted to occur on the expenditure side. Central capex is expected to increase to 3.4 per cent of GDP. This is important because the broader measure of public capex (Centre, states, PSUs) has increased more modestly from 6.4 per cent of GDP pre-pandemic to 6.8 per cent in 2023-24. Given large capex multipliers and its potential to crowd in private investment, it’s important not to take the foot off the pedal. In contrast, revenue expenditure (ex-interest and subsidies) is where the consolidation occurs — budgeted to decline from 6.9 per cent of GDP in 2023-24 to 6.3 per cent in 2024-25. To be sure, this is close to pre-pandemic levels and to the extent that tax revenues are budgeted conservatively (growing at almost 13 per cent in 2023-24 and budgeted at 11.5 per cent next year), there could be some upside surprise on taxes that takes the pressure off revenue expenditures.

But the larger point is that in the coming years, India should seek to undertake a revenue-based fiscal consolidation, given the rising expenditure needs of the economy (infrastructure, health, education, welfare nets). The interim budget was not the place to do it, but the post-election budget certainly will be. Direct tax reform that further boosts tax/GDP will be crucial for further consolidation. This must be complemented with a strategic asset sales programme. Given buoyant markets and rich valuations, this seems a fertile year to monetise assets and bring the deficit down while protecting expenditures.

The large fiscal consolidation in an election year is bold, necessary and must be complimented. Now consolidation must be executed in the least growth-impinging manner. Finally, and more broadly, there is a more enduring signal that the interim budget is sending — the limits of fiscal support may have been reached. Continuing reforms will be needed to bolster growth. And the baton will need to pass from the public to the private sector.

The writer is Chief India Economist, JP Morgan. Views are personal