Context is crucial. To understand the constraints and imperatives this year’s budget faced, one has to appreciate the crosscurrents the global and domestic economies are experiencing.
The global outlook, for instance, is clouded with uncertainty that could break in several different ways. One possibility: Global growth and labour markets remain so resilient that core inflation does not soften enough to reach central bank targets, necessitating “high for long” interest rates in advanced economies that risk a hard landing and/or a financial stability event. The implication: Emerging markets will have to worry about macroeconomic stability, a redux of last year.
A second possibility: The US – whose growth momentum is slowing markedly – slips into recession, pulling parts of the global economy with it. Inflation comes off and central banks quickly pivot. But now, emerging markets face the opposite problem. The global economy becomes a large drag on growth. A third Goldilocks scenario is that advanced economies’ growth slows enough to bring inflation down but not enough to trigger a sharp recession, generating the “soft landing” that markets are fervently hoping for.
What this range of outcomes reveals is the sheer global uncertainty – in quantum and direction – that policymakers have to contend with. Should the focus in 2023 be to preserve macro stability? Or should it be to anticipate the global slowdown’s impact on India’s growth and act preemptively to mitigate it? It’s not clear.
Add to this, the domestic trade-offs. Both corporate and bank balance sheets are in the best shape they’ve been in years, such that the “twin balance sheet” constraint is no longer binding. Yet, a broad-based private investment cycle can take time, given elevated global uncertainty, utilisation rates still being in the 70s and monetary conditions tightening. Given this private sector diffidence and the prospect of exports slowing meaningfully, the budget needed to double down on the capex thrust that it rightfully embarked on during the pandemic.
Simultaneously, however, the budget could not take its eye off fiscal prudence. Total public sector borrowing in 2022-23 was upwards of 9 per cent of GDP and with the current account deficit widening discernibly (though peak pressures appear behind us) and core inflation so sticky, fiscal consolidation was needed to help ameliorate domestic and external imbalances.
The budget’s ask was, therefore, manifold: The need to simultaneously protect macro stability yet foster growth. The need to simultaneously push on public investment yet reduce the deficit.
To its credit, the budget has pulled off a most artful balancing act, ticking all the right boxes. For a fourth successive year, the leitmotif of the budget was a big push towards capital expenditure and infrastructure creation. In the throes of the pandemic, this column had argued repeatedly that a big public investment push was the need of the hour – to spur growth and job creation – and that this was India’s “New Deal” moment (‘India’s new deal moment’, IE, January 11, 2021).
To their credit, policymakers have delivered in spades. In just three years, central capex has jumped from its long-standing average of 1.7 per cent of GDP to 2.7 per cent. Not satisfied, this year’s budget has (correctly) doubled down on its bets and boldly targeted central capex at 3.3 per cent of GDP next year. If achieved, this would constitute a doubling of capex in just four years. One cannot overstate the importance of a sustained public investment push at this moment in time for blue-collar job creation, crowding-in private investment, improving economic competitiveness and eventually boosting potential growth.
The collateral impact is a sharp improvement in the quality of expenditure on the Centre’s budget. Subsidies had ballooned on the back of the pandemic and the Ukraine war but are expected to mean revert from next year. Outside of that, the quality of spending has markedly improved. Revenue expenditure (net of interest and subsidies) used to be 4.5 times the capex allocation in 2019-20. This year, the ratio is expected to fall to about 2.5 and, if the budgeted projections fructify, fall further to two next year. There is a clear thrust in the central budget to invest rather than consume.
Simultaneously, however, the budget has not lost track of the need to consolidate. Apart from consolidating 0.5 per cent of GDP next year – which is pragmatic given the risks to growth this year — the budget speech re-affirmed the central fiscal deficit will be brought below 4.5 per cent of GDP by FY26 – thereby committing to at least 1.5 per cent of GDP consolidation over the next two years. This is much needed. India’s Achilles heel has always been not creating enough fiscal space during recoveries, and therefore often being left with inadequate fiscal ammunition when the need arises.
In sum, the budget ticked all the right boxes: Improving the quality of spending, staying on a consolidation path, re-affirming medium-term fiscal targets, while avoiding any negative surprises for markets.
Are there risks to monitor? There always are. The growth recovery and elevated inflation meant tax buoyancy is strong this year. The ratio of gross taxes (net of excise) is projected to be 1.2 this fiscal. Next year, the budget effectively retains tax buoyancy at 1.2 (after adjusting for the tax changes). However, with both growth and inflation expected to slow (the budget projects 10.5 per cent nominal growth next year versus 15.4 per cent this year), the risk is tax buoyancy could be lower next year. Furthermore, for this year’s targets to be reached, gross taxes (net of excise) would need to grow upwards of 16 per cent in the January-March quarter, vis-à-vis 9 per cent growth in the last quarter. If this year’s targets don’t fructify, it further increases the tax buoyancy that will be needed to hit next year’s targets. Making point estimates – as the budget is forced to do – is particularly challenging in times of such uncertainty. But this is an area that policymakers will need to closely monitor, so that contingency revenue plans are made in case nominal GDP or tax buoyancy don’t fructify, so the capex thrust is protected.
A second focus area must be to improve the absorptive capacity of states and PSU’s who have been lagging on capex in recent years — including this year — such that, despite the Center’s thrust, broader public capex has been flat in recent years.
A third focus area must be to double down on revenue mobilisation in the coming years. Lower food and fertiliser subsidies in FY24 created a hefty 0.8 per cent of GDP in fiscal space that was used to reduce the deficit and boost capex. But that opportunity will not arise every year. If the deficit is to be brought down by 1.5 per cent of GDP in the next two years without cannibalising capex, and much needed investments in health and education are to be made, the focus must be on mobilising revenues (both direct and indirect taxes) and revving up asset sales.
For now, however, the budget brings much-needed predictability and continuity. Amidst the continuing global storm, it provides a steady hand on the tiller while simultaneously laying the groundwork to pick up the pace when the tide turns.
The writer is Chief India Economist at J P Morgan. Views are personal
