Budget 2024-25: what is in it for AP and Bihar?

In the run up to the budget, there was talk of AP and Bihar exacting a huge price from the central government for the support extended by the ruling parties of those states to the NDA government. All sorts of figures were mentioned- one report in the media said that AP had demanded Rs 1 lakh crore.

How much exactly is the central government dishing out?

It is impossible to make out precise allocations from the budgetary papers on expenditure. All we have are indications thrown out in the budget speech.

AP gets Rs 15,000 crore in the form of a soft loan arranged by the centre from multilateral agencies. That is hardly a "cost" to the centre. The budget speech mentions a few other things:

i. Financing and early completion of the Polavaram Irrigation Project, 

ii. Funds will be provided for essential infrastructure such as water, power, railways and roads in Kopparthy node on the Vishakhapatnam-Chennai Industrial Corridor and Orvakal node on Hyderabad-Bengaluru Industrial Corridor.   

iii. Grants for backward regions of Rayalaseema, Prakasam and North Coastal Andhra, as stated in the Act, will also be provided.

I have not been able to make out the specific allocations for these projects. 

For Bihar, the budget lists various projects in the railways, power and floods and irrigation amounting to about Rs 59,000 crore but there is no mention of the time frame. Also, some of these could be projects planned by the Centre in the normal course.

 

Budget 2024-25- Job creation thrust

The budget is seen as having an almost unprecented focus on job creation through subsidies and incentives. Will these work? Here are a few thoughts.

A few weeks before the budget, the RBI put out data that showed that the economy had created about 9 crore jobs in 9 years or about a crore a year in industry and services. The Economic Survey for 2023-24 says the economy needs to create about 8 million jobs every year. So where is the problem? Are industry and services generating jobs more of the unskilled variety so that educated unemployment is the issue? What explains the budget's almost unprecedented focus on job creation through subsidies and incentives?

There are three schemes in the budget for boosting job creation. The first is a payment of up to Rs 15,000 for those entering the workforce in the formal sector. This is a sort of top-up to the wages they will be paid. It can't lead to job creation, it only rewards those who manage to get jobs. 

The second is employment-linked incentives to the employer as well as the first-time employee in manufacturing. It will be by way of a payment towards the EPFO contributions of the two parties. To the extent that it reduces the burden on the employer, it will help job creation. It is expected to benefit 3 million youth.

The third is for all sectors and will reimburse to employers up to Rs 3000 per month for two years towards their EPFO contribution to employees. This is expected to create 5 million new jobs.

At the margin, the second and third schemes lower the cost of an employee in all sectors. They may, perhaps, help in businesses where the labour cost as a proportion of sales is relatively high. 

Then we have the Internship scheme for 1 crore youth at 500 top companies over five years. The government will provide Rs 5000 as stipend and the companies will have to bear 10% of the internship cost and the cost of training. As many have pointed out, this means each company will have to give internships to 4000 youths. What happens if they don't oblige? 

Monitoring and enforcement at private companies is a huge challenge. The government has a number of schemes that it implements through banks- Jan Dhan Yojana, Jan Awas etc. It is the public sector banks that bear the brunt. Private companies get away with doing very little. The same is likely to happen with the job creation schemes. We need to track exactly how many additional jobs are created through these schemes. The finance ministry has said that all these schemes are not mandatory, they are only intended to nudge companies, so we mustn't expect a great deal from the private sector.

If the idea is create jobs on a crash basis, filling vancies in government is a better idea. If unemployed youth are to be provided help until they can find a job, a direct transfer seems more sensible- give every educated unemployed youth a monthly allowance. 

What exactly is the government spending on employment generation? The budget speech mentions expenditure of Rs 2 lakh crore over five years or about Rs 40,000 crore in each year. For FY 24-25, the specific increase in expenditure on account of employment generation is a little less than Rs 10,000 crore. 

Pre budget musings

 Outlook Business carries an interview with me on the coming budget.

Artificial intelligence yet to make an economic impact

It's common to hear about how AI is going to transform the world and lead us to undreamt of riches. Economists are sceptical. A common view in the US is that AI will, at most, help sustain productivity growth at 2 per cent, it's not going to cause any acceleration. But that doesn't stop the industry types from gushing about AI.

What we can confidently say now is that AI has so far not had any significant impact. And that seems to be because the adoption of AI by industry is quite weak. Meaning to say, businesses have not incorporated AI into their practices in ways that can transform the businesses, as an article in the Economist points out.

I will content myself with reproducing a few points: 

Official statistics agencies pose AI-related questions to firms of all varieties, and in a wider range of industries than Microsoft and LinkedIn do. America’s Census Bureau produces the best estimates. It finds only 5% of businesses have used ai in the past fortnight..... Even in San Francisco many techies admit, when pressed, that they do not fork out $20 a month for the best version of Chatgpt.

Concerns about data security, biased algorithms and hallucinations are slowing the roll-out. McDonald’s, a fast-food chain, recently canned a trial that used ai to take customers’ drive-through orders after the system started making errors, such as adding $222-worth of chicken nuggets to one diner’s bill. A consultant says that some of his clients are struck by “pilotitis”, an affliction whereby too many small ai projects make it hard to identify where to invest. Other firms are holding off on big projects because ai is developing so fast, meaning it is easy to splash out on tech that will soon be out of date.

We hear often about AI displacing a range of jobs. This hasn't happened either:

Using American data on employment by occupation, we focus on white-collar workers, who range from back-office support to copywriters. Such roles are thought to be vulnerable to ai, which is becoming better at tasks that involve logical reasoning and creativity. Despite this, the share of employment in white-collar professions is a percentage point higher than before the pandemic..

Will things change with more AI adoption? Will AI adoption happen on the scale projected? We don't know. 

India's banking sector going from strength to strength

Going through the RBI's latest Financial Stability Report (June 2024), one has to pinch oneself in disbelief. The turnaround in India's banking sector has surpassed all expectations. One key indicator: the ratio of gross NPAs to advances is 2.8 per cent, below the international benchmark of 3 per cent.

Even more surprising is the improvement in profitability, measured by return on assets, in 2023-24. Analysts had warned us that, with deposit costs rising, banks' margins would be squeezed. A greater focus on retail loans would result in higher bad loans and result in high provisions. Both these would dent banks'  returns in 2023-24. They have been proved wrong.

In my latest article in BS, I explain how this has happened:

 

FINGER ON THE PULSE

Banking sector continues to confound sceptics

It has shown remarkable resilience in the post-pandemic years despite challenges and warnings about instability

T T Ram Mohan

India’s banking sector continues to astonish. Its performance in 2023-24, revealed in the Financial Stability Report (FSR) of June 2024, is as much of a pleasant surprise as its turnaround in the preceding years.

The sector entered the first year of the Covid-19 pandemic, 2020-21, with a non-performing asset (NPA) level of 8.5 per cent of advances. Analysts warned that the improvement seen in the previous two years was in jeopardy. The chances were that NPAs would shoot up instead of declining. Vast amounts would again be needed to recapitalise public sector banks (PSBs). 

Later, as the Reserve Bank of India (RBI) announced various restructuring schemes, we were warned of the perils of “kicking the can down the road”. If you don’t recognise NPAs now, be prepared for higher NPAs to show up later, analysts said. It was better, they argued, to “bite the bullet” now. 

They were proved wrong.  Out-of-the-box thinking enabled the RBI to nudge the banking sector back to normalcy in the post-pandemic years despite the Ukraine shock and the shocks emanating from banking instability in the US and Europe. By 2022-23, NPAs had fallen to 3.9 per cent.

Fair enough, the analysts said. However,   sustaining the secular improvement in financial indicators of the previous years would be difficult in 2023-24.  Banks would face a liquidity crunch, with deposits failing to keep pace with growth in loans. The net interest margin would be squeezed and asset quality would suffer from the rapid build-up of loans. Returns were bound to fall. 

Wrong again, it turns out. Yes, banks’ liquidity at the margin was indeed stretched- the incremental credit-deposit ratio for all scheduled commercial banks was over 100 per cent, as the FSR points out. For private banks, the incremental credit-deposit ratio was nearly 120 per cent.  But banks seem to have had no difficulty in passing on the higher costs of deposits to their borrowers. The net interest margin (NIM) fell by only 1 basis point relative to the previous year (3.6 per cent compared to 3.7 per cent).  

How did banks manage to maintain NIM in the face of rising deposit rates? Well, they did so by maintaining a high rate of growth in high-yielding retail products, such as credit cards, personal loans, loans against property, and auto loans. The growth rate in these products in the past two years is a good 7 to 14 percentage points above aggregate loan growth rate of 15.4 per cent and 16.3 per cent in the years 2023-23 and 2023-24, respectively.

In what was predicted to be a challenging year for bank, the return on assets for banks as a whole increased from 1.1 per cent to 1.3 per cent. Apart from NIM staying high, several factors contributed to the improvement: A higher rate of loan growth, lower provisions, higher trading income, and higher fee income. The return on assets for PSBs is 0.9 per cent, pretty close to the figure of 1 per cent that is something of an international benchmark. We seem to be getting back to banking’s heady days of the early 2000s. 

Privatisation of PSBs, promised in successive budgets of the past, has been on hold. The privatisation of IDBI Bank, which was initiated in 2018, is yet to be completed. At a return on assets of 1 per cent, PSBs can generate enough capital through internal surpluses and from the market to sustain themselves. They will not pose large demands on the exchequer. The return to health of PSBs means that privatisation will likely lose its impetus. 

Banks have increased the share of retail and service sectors in total credit over the last two decades. Sustained growth in these sectors has so far not told on asset quality. Gross NPAs in retail loans declined from a high of 2.1 per cent in June 2022 to 1.2 per cent in March 2024. Unsecured retail lending has long been seen as a vulnerable area in retail loans. However, asset quality of unsecured retail lending too is showing improvement, with gross NPA ratio at 1.5 per cent compared to 1.6 per cent a year ago. 

It’s almost as if, after the infrastructure imbroglio of the early 2000s, banks can’t put a foot wrong now. Tighter regulation and supervision, an improvement in risk management at the bank level and better selection of leaders at PSBs through the Financial Services Institutions Bureau have all contributed to the improvement.

Can Indian banking keep going the way it has in the past few years? On the face of it, there seems to be little reason why it can’t. Banking is a play on the economy. The Indian economy looks set to grow at around 6.5 per cent over the long-term. The FSR thinks credit growth of 16-18 per cent can happen without seriously impacting asset quality.  

At the same time, competition for deposits will remain intense. Net financial saving, the FSR notes, has declined to 5.3 per cent of GDP during 2022-23 from an average of 8.0 per cent during 2013-2022. The RBI Annual Report shows that the share of deposits in gross financial savings has declined from a peak of 6.3 per cent in 2016-17 to 4 per cent in 2022-23. 

The crucial question, then, is whether retail loans can continue to drive bank revenues and profits as they have in the recent past. The FSR sounds a note of caution. It points out that household debt to GDP at 40 per cent in India is below that in emerging markets. However, in relation to GDP per capita, it is quite high.  Nevertheless, the record of the past five years suggests that we are still some distance away from the point where banks’ focus on retail loans may turn counter-productive. 

Many have commented on the remarkable resilience the Indian economy has displayed in the post-Covid years in the face of lacklustre global growth. The banking sector’s stability is a key factor underpinning that resilience. Our banking sector model drew scathing criticism from several quarters in the post-reform era. Its remarkable success in recent years should silence critics.