Some thoughts on the Economic Survey (2007-08)

The Economic Survey came out yesterday and I was on CNBC TV to give my comments.

There are a couple of issues I would like to flag. The Survey notes that we could achieve one of the FRBM targets by 2008-09, namely, the reduction in fiscal deficit to 3% of GDP. We are unlikely to meet the target of reducing revenue deficit to zero. I have a problem with the suggestion that we should consider even further reduction in the FRBM targets.

What's the rationale for a further reduction? The Survey argues that such a reduction would make monetary policy more effective- it would be easier to bring down interest rates. I do not find this line of argument persuasive.

We have had even higher levels of fiscal deficit in the post-reform years and yet interest rates declined. Why? Because in an open economy, interest rates are not determined only by domestic savings- we have access to savings from outside. Secondly, as the Survey itself notes, there has been a trend towards narrowing of the interest rate differential between India and the developed world in recent years.

The danger with pursuing the Survey's line of argument is that we lose out on a key item of expenditure, public investment. As I argued in my recent ET column, I actually favour a relaxation of the FRBM limit so as to permit larger public investment in infrastructure (and here I include investment in agriculture) which has been languishing in recent years.

This will upset fiscal purists. But the point is that we should not get carried away by slippages in respect of deficit targets at the center. The states have been doing better than expect and as a result the combined fiscal deficit of the centre and the states, which is what we should be focusing on, is likely to be within the 6% limit stimulated by the Eleventh Finance Commission by, say 2008-09- perhaps even if we include off-budget bonds and the Pay Commission impact !

All our deficit targets were set at a time when the optimistic expectation was of growth of 7-7.5%. Once you move into the 85.-9% range, you have that much more flexibility in respect the deficits you can run up. Timidity is likely to be our greatest enemy.

The other comment is about the laundry list of "reforms" that the Survey proposes. I notice that this is no longer the list we saw through the nineties and until a few years ago- cuts in subsidies, downsizing of government, labour market reforms, privatisation, all taken straight out of the infamous "Washington Consensus".

No, today's list includes a more liberal FDI regime for insurance, retail trade and banking, private sector entry into coal, deregulation of fertilisers, sugar and drugs, etc. Now, we can debate the merits of these proposals but how critical are these to growth? Are they saying that we can't get to 9% growth without these? If they are, then they are dead wrong.

None of the earlier "reforms" was seriously implemented and yet we move from 6.5% to 8.5%. I daresay that without the latest set of reforms we will get to 9%. Stay focused, I say, on creation of capacity in physical and social infrastructure and growth will take care of itself.