Tuesday, February 09, 2016

Scrap the FRBM Act?

The idea is not as crazy as it sounds. The FRBM Act targets have been missed for so long that one wonders whether it makes sense to stick to it and countenance repeated violations. The original Act wanted the revenue deficit to be reduced to nil bu 2008. This was extended by a year to March 2009. We are in 2016 and the talk is of letting the deficit stay at 3.9%.

Without asking for a repeal of the Act, former RBI governor Bimal Jalan questions the idea of having a specific target. He suggests that it may be a better to have a range within which the government can operate. He also thinks the quality of expenditure needs to be taken into account while judging how large the deficit to be- if public investment is the reason for a larger deficit, we can live with it:
The point I am making is that we need to be clear about whether the FRBM legislation should fix a specific quantitative target in two digits. How does it matter? The more important thing is what is this fiscal deficit representing? In the total amount of fiscal deficit, there are subsidies of different kinds. The administrative expenses are huge in transferring these subsides. Now DBT technology is available. We can expand the network of technological transfers and that would give us plenty of room to expand our investment.

We have to keep in mind two priorities. One is public investment. Two is the use of technology to reduce administrative expenses. Also, the ease of doing business is a very good initiative that the government has announced. This will reduce administrative costs without necessarily reducing administrative staff. 
I would add that we need to keep in mind the debt to GDP ratio. As long as the debt to GDP ratio is reasonable (and here again, we should take into account the international situation at a given point) and has been showing a declining trend- which is true of India- we can accommodate a higher fiscal period for a short period of time. India's debt to GDP ratio (centre plus states ) is below 70%  which looks good compared to the ratios in the US and Europe. And the point about a fiscal deficit rise caused by a rise in public investment is that it will lead to an even higher increase in GDP (through the multiplier) causing the ratio to decline over time.

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