Saturday, February 27, 2010

Fiscal fundamentalism

The pundits on TV made a big deal about the stock market going up on budget day- by about two hundred points. The market had gone actually declined in the run-up to the budget and, even otherwise, movements one way or another on budget day are of no great significance when the Indian market is so closely linked to global market trends.

The big item for the market was said to be fiscal consolidation. The pundits said this had compensated for 'big ticket' reform. Other than Manmohan Singh's first budget, there has been hardly any budget that measured up on this count, so you have to wonder what it is that pundits dream about. Leaving that aside, what do we make of the achievement on fiscal consolidation in Mukherjee's latest budget?

He has budgeted a fiscal deficit down of 5.5% in 2010-11, below the 7.9% and 6.9% of the two preceding years. Some of this is automatic- the pay commission arrears don't apply, farm loan waiver has got pruned. Then, there is the disinvestment effect and the sale of 3-G spectrum, some cutting of subsidies. But, the figure of 5.5% is lower than the Thirteenth Finance Commission's recommendation of 5.7%. Besides, nominal growth for 2000-10 will be higher than the budgeted 10.2% because of higher inflation, so the fiscal deficit will be lower than 6.9% and the deficit for 2010-11 will be even lower than 5.5%.

Is this appropriate when government needs to spend a lot more- on railways, roads, education, health care, irrigation, etc? We need to factor in rising government expenditure and we need to push for a higher tax/GDP ratio- we have just edged past 10%, which is lower than even the 12% we had in 2008-09. We need agriculture to grow at 4% if growth is to be truly inclusive.

Alas, there seems to be a sense that if get to growth of 9% and we meet FRBM targets, we have reached heaven. Not at all, we need 9% growth that is sustainable and inclusive- and these conditions will be met only when agricultural growth is boosted and when we spent a lot more on the social sector. Fiscal consolidation should not be confused with fiscal fundamentalism.


JB said...

I would like the fin min to also state a target rate of inflation along with the target gdp growth (although ofcourse RBI should have a target rate of inflation as part of an independent monetary policy framework but lets have the finmin quote rbi policy anyway - I found it ludicrous that RBI did not indicate a target inflation rate in its Jan-end policy document and raised its expectations from 4.5% to 8.5% for March-end WPI through the last 3 quarters and it stressed in every quarter the importance of "anchoring" inflation expectations?!).

The reason for having the finmin explicitly quote last year's GDP growth rate in the same breath as last year's inflation rate (and similarly for future) is this - for 2008-09 and 2009-10 now inflation (wpi) has exceeded GDP growth rate so the growth rates are really a mirage and have done nothing more than transfer money from one part of the economy to another without any real increase. The finmin should highlight "real" growth when talking about past performance and future targets.

The easy money policy is often argued as required because credit growth is anemic but couldn't it be that the easy money policy is not the answer - not for the sectors/purposes it is available today any way?

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