Fiscal mandate - some sagacious counselling

By S. Swaminathan

By all accounts, the projections made in the Union budget for 2001-02, are increasingly becoming unstuck. Nor is this a replay of the classical flaw of ``poor fiscal markmanship'' of the Indian budget - the wild swings between tax revenue projections and the actual outcome or the proverbial bureaucratic proneness to underestimating expenditure, particularly on the revenue account, and the more recent habit of dressing up the fiscal imbalance through the inclusion of ``wishful thinking'' in terms of imagined proceeds of disinvestment!

As the economy stands perilously poised between a chronic state of demand stagnation and a brooding negative sentiment on investment, it is becoming increasingly clear that the fiscal dilemma will emerge in more traumatic terms than ever before and that the chorus of fiscal orthodoxy that swears by the virtue of deficit reduction will get drowned in the clamour for a more realistic fiscal policy pro-public expenditure rather than one tilted towards pruning of public spending regardless of its nomenclature.

Current trends in Central finances

Data on public finances released by the Centre, covering the first quarter (April-June 2001), are uniformly antithetical to any anticipated correction of fiscal deficit. Total expenditure for the period at Rs. 65,089 crores represents an increase of 14 per cent compared with the expenditure during the corresponding period in 2000. As against this, tax revenue during April-June this year, at Rs. 16,835 crores actually reveals a decline by 25 per cent as compared with the position in 2000. Overall, non-debt receipts of the Centre have decreased to Rs. 22,891 crores from Rs. 32,010 crores. This amount includes non-tax revenues and recoveries of loans as well.

Ballooning expenditure and dwindling revenue receipts have ineluctably led to an increase in market borrowings by the Centre in defiance of all the fiscal fundamentalism which Mr. Yashwant Sinha, the Finance Minister, has been dutifully articulating for the last three years. Market borrowings during April-June have exceeded Rs. 46,500 crores as compared with Rs. 28,000 crores during the corresponding period last year. Consequently, the gross fiscal deficit had shot up to Rs. 42,200 crores - a whopping 68 per cent increase over the year! Assuming that the mismatch between revenue receipts and expenditure continues unabated during the remaining months of 2001-02, the fiscal deficit for the whole year would end up around Rs. 168,800 crores as against a budgeted deficit of Rs. 116,314 crores! A catastrophic scenario? So it would seem going by the consensus among puritans of public finance (who hold the centre-stage in multilateral financial fora including the IMF). But that dictates of development policy in India would mandate a fiscal regime that facilitates a reactivation of demand rather than merely subserve the cause of stability (manifested in moderate GDP growth and in a regime of suppressed price-levels) is a point of view which appears rather too hesitant as yet to impact on the policymakers.

The CAG mindset

The auditing profession, in its global reach, is rightly lauded for its commitment to financial probity, disclosure proprieties and of late, for its increasing concern for corporate governance. Yet, to identify that profession, with the fine art of financial engineering or that of marrying risks with rewards, would be as erroneous as to expect governments to become enterprising entrepreneurs!

The recent report of the Comptroller and Auditor-General of India (CAG) on Union finances for 1999-2000, is as severe a stricture on fiscal management as any independent consultant could have offered with a clear conscience. There is no question that the CAG critique on the fiscal policy regime of the Centre is all well-warranted in terms of how the Government's responsibilities in mobilising and deploying public funds have not been properly carried out.

Take, for instance, the comment that the Government has been losing financial autonomy in not being able to apply available resources for legitimate current expenditure or for asset- creating activities. The fact is that the incubus of accumulated public debt and the financial burden of servicing it, results in as much as 87 per cent of current borrowing being used for repayment of debt! Consider another nugget of CAG wisdom regarding the parlous state of fiscal management. ``To the extent that the fiscal deficit is not used for creating assets, finances become vulnerable because liabilities are being added without addition to the capacity for repayments.''

While there is no disputing the profound truth inherent in the rule that debt financing is injurious except when it is used for building income-earning assets, the economic milieu in which a Government functions (and which compounds the fiscal responsibilities of the Government) cannot be totally wished away.

What could be more compelling for governments in heavily populated, labour-endowed and poverty-striken developing countries, than to trigger the investment-development process through an expansionist fiscal policy (aided by a properly- graduated cheap money policy as well)? That there are downside risks in such a policy preference goes without saying but to believe that a zero-fiscal deficit is summum bonum for a welfare approach is to take the ostrich for a role-model!

IMF alarm

Indian economic policymakers since the days of Dr. Manmohan Singh in the early 1990s have been fed with bountiful exhortations by the IMF-World Bank duo on how to open the doors to elysium by simply closing the tap of the fiscal deficit! It is not that any miracle in the nature of elimination of fiscal deficit at the Centre or in the States has come to pass.

That the IMF continues to harp on fiscal discipline (as manifested in reduction of fiscal deficit) is not surprising but what should cause scepticism is that many of the caveats against fiscal deficits so religiously repeated by the IMF and its trumpeters have turned out, in the Indian context, to be little more than theoretical obsessions or psychological misgivings.

Consider the traditional argument about fiscal deficit ``crowding out'' private sector investments. All the theory is that when once liberalisation is embarked upon, private investments will boom provided only that the Government (read the public sector) does not pre-empt investible resources from the market.

What if the private sector is not so excited about committing itself to new investments or if the capital market itself goes into a coma or if the policymakers continue to dither for lack of experience on how to open up the economy with adequate safeguards for ensuring that no ``crony capitalism'' takes the place of an erstwhile state capitalism?

Would the argument about fiscal deficit ``crowding out'' private investments then be valid? Would there not be a strong national compulsion for larger public investments in infrastructure, social sectors and so forth, if need be, on the basis of fiscal deficits? Can it be denied that the economic conjuncture in India today warrants a flexible rather than mule-headed approach to fiscal policy?

A sober reflection

A growing fiscal deficit is not the acme of economic rationality. Nor, at the other end of the scale, is a suppression of fiscal deficit, an unmixed blessing. As the Deputy Governor of the Reserve Bank of India, Dr. Y. V. Reddy, has recently pointed out, the ``crowding out'' effect of fiscal deficit has not been at work in India. Nor is the investment lag apparently the consequence of any perceived high real interest rate regime.

Regardless of how international credit-rating agencies look horrified at the fiscal deficit spectre in India, Dr. Reddy would hold that fiscal correction is undoubtedly a medium-term imperative but that right now the policy priority would be to revive investment demand and that given the resiliency in the economy, a dreadful script for financial stability need not necessarily be read in the fiscal predicament.

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