In hindsight, the last three Union budgets were rather unfortunate in their timing. The 2020-21 budget was presented just a few weeks before the imposition of a national lockdown to deal with the pandemic. The 2021-22 budget was tabled just before the horrific second wave of the pandemic, while the 2022-23 budget was delivered just before the Russia-Ukraine conflict. Not being able to factor in the economic fallout of each of these events meant that the budget numbers for these three years, on both the revenue and expenditure side, ended up being approximations at best, rather than firm targets.
This time, however, there is a near consensus on the deterioration in the global macroeconomic environment. What is less clear is how severe the global and domestic slowdown will be. During such periods of heightened uncertainty, the budget numbers need to be carefully constructed. Several areas are of critical importance.
First, what are the government’s views on the state of the economy? Put differently, what will the budget assume economic growth to be over the coming year?
While some variance between expectations and reality is perhaps understandable, the Union budget should put forth a realistic, credible assessment of the state of the Indian economy and government finances. Going by what has happened in the recent past, there is reason to be sceptical on this count.
If 2020-21 is considered an outlier, take the two years thereafter. In 2021-22, the budget had assumed a growth rate of 14.4 per cent (in nominal terms). The actual growth turned out to be 19.5 per cent. For 2022-23, while the budget factored in a growth rate of 11.1 per cent, the economy is expected to grow at 15.4 per cent as per the latest estimates.
Now, one can argue that the pandemic and the Russia-Ukraine conflict have injected a great deal of uncertainty into the economy, making projections difficult. Moreover, by creating room for flexibility in policy, conservatism in projections may bode well for budget making. After all, there is virtue in under-promising.
But the forecasting errors have been on both sides. In 2019-20, for instance, while the budget pegged growth at 12 per cent, the economy actually grew at only 6.2 per cent. Such a chasm between expectations and reality spurs a certain amount of scepticism over the ability of the finance ministry to accurately gauge the state of the economy, and as a consequence, determine what the appropriate stance of fiscal policy should be — whether the government should opt for aggressive fiscal consolidation or if a more relaxed path is called for. Moreover, a wide divergence also creates uncertainty for Union ministries as well as state governments over the resources at their disposal, affecting their spending plans, and as such is unlikely to facilitate effective expenditure management.
Second, how comfortable is the government’s fiscal situation this year? And will the upcoming budget opt for aggressive consolidation or a more gradual reduction in line with the path laid out by the 15th Finance Commission?
On the revenue side, the government’s tax collections this year will surpass its expectations by a considerable margin. But that’s because of conservatism in revenue projections. For all the rhetorical bluster, the tax-to-GDP ratio for 2022-23 is likely to be almost at the same level as last year as per the projections of analysts.
On the expenditure side too, spending this year will outstrip budgeted expectations largely on account of higher food, fuel and fertiliser subsidies. But, despite that, the expenditure-to-GDP ratio will probably end up being more than half a percentage point lower than last year according to assessments of analysts. Thus the reduction in the fiscal deficit this year will be met by expenditure compression, not revenue enhancement.
This is unlikely to change next year. While nominal GDP growth is likely to be significantly lower, so will the outgo on the food, fuel and fertiliser subsidy. Put together, savings on these subsidies could be to the tune of 0.7 per cent of GDP. This fiscal space, created by expenditure compression, will be utilised for bringing down the deficit and increasing capital expenditure — to what extent will be determined by the government’s views on the state of the economy and the electoral cycle. The provision of free food grains and the additional allocation for MGNREGA suggest both factors are at work.
Third, with the Centre’s tax revenues surpassing expectations this year, devolution to states will be significantly more than what was originally planned. As per some assessments, it is likely to exceed the budget target by around Rs 1 lakh crore. However, despite this extra fiscal space, and an interest-free loan facility, state governments have been rather slow on capex this year.
There are two possible explanations for this. One, that states are uncertain about the overall quantum of transfers from the Centre and are thus reluctant to draw up firm plans to increase spending. Or two, it reflects an inability to ramp up spending. In this case, the constraint at the state level is no longer funding, but capacity. Considering that states account for a significant share of overall public sector capex, their inability or unwillingness to ramp up spending has implications for a growth strategy that relies heavily on the public sector for driving investments.
Fourth, in the past, it was common practice for the Union government to unveil a medium-term fiscal roadmap along with the budget. However, this custom was discontinued by the central government, even though state governments have continued to detail their fiscal trajectories. This practice should be revived. A roadmap will not only provide greater clarity on the Union government’s expectations of its fiscal position, but will also help align short-term policy with achieving medium-term objectives.
ishan.bakshi@expressindia.com
