This budget was unique in the scale and intensity of anticipatory anxiety. With prior assumptions about possibilities of policymaking in India unsettled, many were worried about government’s next move. Could the government add two-three percentage points to the fiscal deficit to launch a spending spree? Could there be a loan waiver, Universal Basic Income, or Massive tax cuts? It turned out to be a textbook case of workmanlike budget-making – not dazzling, but reasonably prudent. It is heartening to see that our politics can produce this budget in such a situation. One hopes that the government works consistently to reduce policy uncertainty. The budget is a step in that direction.
A budget should be judged primarily on fiscal management, and how it links to larger policy priorities. Each budget tells a story about government’s priorities. However, since most of budgeting is not zero-based, important reforms tend to span several budgets. It is important to consider the budget in the context of medium-term fiscal strategy of the government, and the fiscal issues that need to be addressed in medium term. Changes to the systems of raising, allocating and spending resources are also relevant for evaluating a budget. Further, since the budget is made within a fiscal responsibility framework, changes to the framework are also pertinent. Finally, changes to the formats of reporting and accounting are also relevant.
The budget scores reasonably well on fiscal prudence, changes in the reporting formats, and reform of the budget process. It signals good fiscal marksmanship, but we cannot know this for sure until the data on actuals becomes available. As budgets in India go, this is a good housekeeping performance. However, if we take a medium-term perspective, we see that the budget indicates progress on some fronts, but does not do much to address most of the persistent fiscal issues in India. Further, some of the proposals in the Finance Bill raise worries about the future of tax administration.
According to the revised estimates, the government is expected to achieve its fiscal deficit target (3.5 percent of GDP) for 2016-17, and has set a fiscal deficit target for 2017-18 (3.24 percent) that is close to the roadmap given in the Medium Term Fiscal Policy (MTFP) statement two years ago (3 percent). The fiscal deficit target for 2018-19 and 2019-20 is 3 percent. In a rare instance, government is expected to do better than its target for revenue deficit (difference between revenue expenditure and revenue receipts). The target was set at 2.3 percent of GDP, but the revised estimates suggest that the revenue deficit this year will be 2.1 percent. This is because of higher tax and non-tax revenue collections, while the revenue expenditure is estimated to be along the budgeted lines. For 2017-18, the target is set at 1.9 percent, which is slightly higher than 1.8 percent target laid down in last year’s MTFP statement. The primary deficit (fiscal deficit minus interest payments – shows whether we are borrowing to pay interest on borrowings) is estimated to be the same as budgeted (0.3 percent of GDP), and is budgeted at 0.1 percent in 2017-18.
The GDP estimates suggest that government expenditure is the main driver of growth in 2016-17, while growth in other types of expenditure is likely to be sluggish (private investment is estimated to fall). The strategy of using public investment to crowd in private investment was launched about two years ago, and it seems to have yielded underwhelming results. Perhaps the government did not consider it wise to continue down this path for more time, and is now keen to use other instruments to encourage private investments. It will have to undertake a sustained reform programme to boost private investments in the next few years.
There are several pathways to fiscal consolidation. Fiscal consolidation may involve a combination of: cutting expenditure, increasing tax revenues, increasing non-debt capital receipts (especially disinvestment and privatisation), and raising non-tax revenues (especially through user charges). The fiscal consolidation budgeted for 2017-18 is 0.3 percent of the GDP projected for the year, or about 0.5 lakh crore. How is this being achieved?
On the receipts side, the budgeted increases in net tax and disinvestment receipts are far smaller than the budgeted fall in non-tax revenues. Non-tax revenues are budgeted to fall because of lower collections from spectrum sale, and because Railways is no longer required to pay interest to government (since the budgets have been merged). So, in 2017-18, the receipts (excluding borrowings) are budgeted to be 9.5 percent of GDP – lower than they were in 2016-17 (9.82 percent). With these budgeted receipts, if expenditure grows at the rate at which GDP is projected to grow, the fiscal deficit in 2017-18 would be about 3.9 percent.
The government has bet on cuts in expenditure to achieve fiscal consolidation. This means that central government expenditure, as a percentage of GDP, is budgeted to shrink from 13.3 percent in 2016-17 (revised estimate) to 12.7 percent (budget estimate). Some of the areas where expenditure, in terms of percentage of GDP, has been cut are: defence (0.15), MGNREGS (0.04), fertilizer subsidy (0.04), food subsidy (0.04), petroleum subsidy (0.03), agriculture (0.02), and Pradhan Mantri Gram Sadak Yojana (0.02).
If most of these cuts were coming from expenditure reforms that improve efficiency of expenditure, i.e. get the same or better outcomes for smaller expenditure, they would hurt less. However, it is not clear if that is the case. Moreover, there is no significant change in the budgeted revenue-capital ratio of expenditure (from 86.1:13.9 to 85.6:14.4).
Since the economy seems to be in doldrums, a less contractionary consolidation pathway would have been more appropriate. The strategy should have comprised of substantive subsidy reforms (discussed later), an aggressive privatisation/disinvestment programme, raising non-tax revenues through user charges, and, to a lesser extent, other expenditure cuts. The budget targets for disinvestment are aggressive, but the targets for privatisation are lower than they were in 2016-17. This year, the government should have built the systems and processes for privatisation transactions, and reaped much higher receipts in 2017-18.
The deficit targets for 2017-18 must be considered in the context of fiscal uncertainties. The uncertainties of GST rollout, consequences of demonetisation, and external circumstances make it difficult to project macro indicators for 2017-18, and to achieve the targets. Government may need to review its strategy during the course of the year.
In summary, while the deficit targets are prudent, the strategy for achieving them seems sub-optimal, and due to uncertainties, it will take considerable dexterity to achieve them.
Reform of reporting formats
This is the first budget without the plan-non plan expenditure distinction. The reporting formats no longer include this distinction. The government has used this opportunity to change the reporting formats. New statements have been added, annexes have been done away with (most of them are included as statements now), some statements have been omitted, and the formats of certain statements have been changed. Here is a summary of the key changes in the reporting format of Volume I (now-called “Expenditure Profile”) of the Expenditure Budget:
In the summary statement, these six categories replace the categories of “plan”, “non-plan” and “central assistance for state/UT plans”. Continuing with the previous budgets, the “resources of public enterprises” are also reported. These include internal resources (accruals), bonds/debentures, external commercial borrowings/suppliers credit, and other resources, but do not include budgetary support to these enterprises.
The opportunity of removing plan-non plan distinction should be used to make these statements more comprehensive. Earlier, only plan expenditure towards welfare of these beneficiaries was captured in these statements, and it seems that the same expenditure is being captured in the renamed statements. Even the expenditure that was earlier classified as non-plan had components that benefited these beneficiary groups. Those allocations should also be included in these statements. For instance, the share of subsidies going towards these groups should be included in these statements. A beginning in this regard seems to have been made, as the interest subsidy, which was a non-plan expenditure in the earlier scheme of things, has been included in these statements. It wasn’t included in the statements till last year.
In my view, the new formats are easier to read and understand. They are more informative. An opportunity that has been missed, and should be considered in subsequent years, is to report consolidated spending on activities, which are spread over various schemes. For example, it will be useful to have a statement that gives information about spending in different areas of activity, such as health, education, skill development. Scheme-wise information is useful, but common citizens will be better able to understand the budget if the information is given in terms of areas of activities. With the removal of plan-non plan distinction this has become easier to do.
Reforms of the budget process
Advancing the budget day and merger of the Railway Budget and Union Budget are significant improvements over practices prevalent earlier. Advancing the budget day would help ensure that implementation of the new schemes can begin as soon as the financial year begins. It gives time to the departments and ministries to prepare for implementation and plan they spending. This is consistent with best practices in other countries.
The practice of presenting the Railway Budget separately was little more than a long-standing legacy. Although it is much bigger than other such enterprises, the Indian Railways is just one of the ten departmentally run commerical undertakings. Now, a single Appropriation Bill, including the estimates of Railways, will be prepared, instead of a separate Bill for Railways. Railways will get exemption from payment of dividend to General Revenues, and its Capital-at-charge would be wiped off. For the rest, things will remain the same. Ministry of Finance will continue to provide Gross Budgetary Support to Ministry of Railways towards meeting part of its capital expenditure, and Railways will continue to raise resources from market through Extra-Budgetary Resources to finance its capital expenditure.
Profile of expenditure and receipts
In 2016-17, government is budgeted to spend Rs. 19.78 lakh crore. Major components of the budget, which comprise about 75 percent of total expenditure budgeted for 2016-17 are (BE: Budget Estimate; RE: Revised Estimate):
|Component||Expenditure (2016-1, BE) (in Rs. lakh crore)||Share in total (2016-17,BE) (in percent)||Expenditure (2016-17, RE) (in Rs. lakh crore)||Share in total (2016-17,RE) (in percent)||Expenditure (2017-18, BE) (in Rs. lakh crore)||Share in total (2017-18,BE) (in percent)|
|Defence, including defence pensions||3.4||17.2||3.45||17.13||3.6||16.76|
|Finance Commission transfers to states and local bodies||1||5.1||0.99||4.9||1.03||4.8|
|Roads and highways||0.58||2.9||0.52||2.6||0.65||3.02|
|Central armed police forces||0.5||2.5||0.52||2.6||0.55||2.56|
|National Education Mission||0.27||1.36||0.27||1.34||0.29||1.37|
|National Health Mission||0.21||1.06||0.23||1.14||0.27||1.26|
|Pradhan Mantri Awas Yojana||0.20||1.01||0.21||1.04||0.29||1.35|
For most of these, the revised estimate of expenditure during 2016-17 is quite close to the budgeted expenditure. For roads and highways, the revised estimates are about ten percent lower than the budgeted expenditure. For MGNREGS, the revised estimate is about 23 percent higher than the budgeted expenditure. Being a demand-driven scheme, this is not unusual for MGNREGS.
For 5 of these, the shares in budgeted expenditure for 2017-18 are stable. For defence, fertilizer subsidy, MGNREGS and petroleum subsidy, the share of expenditure is significantly lower. The share is significantly higher for Pradhan Mantri Awas Yojana, National Health Mission, Railways as well as Roads and Highways.
Fiscal marksmanship on expenditure side significantly depends on receipts. If receipts fall short, expenditures are cut or fiscal deficit target is not achieved. In 2016-17, the expenditure is budgeted to be financed by the following receipts (numbers in brackets are percentages of total receipts:
The revised estimates suggest that the government is likely to collect about 3 percent higher tax revenues than it had budgeted. While the revised estimates of direct tax collections are very close to the budget estimates, those for the indirect tax collections are different. Customs collections are estimated to fall short by 5.6 percent; excise duty collections are estimated to be 21.6 percent higher than budget estimates; and service tax collections 7.1 percent higher. The government may have set a modest target for growth in collection of excise duty, in anticipation of increase in crude oil prices. If crude oil prices had indeed risen sharply, government would have had to cut the excise duty on petroleum products, and that would have led to a smaller increase in collections. Fortunately for the government, this did not happen.
The non-tax revenue collections are estimated to be 3.7 percent higher than budgeted. This is primarily on account of 43 percent higher collection of dividends from CPSEs. This is estimated to more than make up for the shortfall in collections from spectrum auctions and interest receipts. In non-debt capital receipts, while the overall receipts are estimated to be close to the budgeted amount, proceeds from disinvestments are expected to fall short by about 20 percent. So, while a lot is going on in the components, the overall receipts are better than budgeted.
On fiscal marksmanship, three significant caveats are in order. First, the government’s reported numbers sometimes turn out to be quite inaccurate. Recently, a CAG audit concluded that the fiscal deficit in 2015-16 was 4.31 percent of GDP, and not 3.9 percent, as was reported by the government. It is a cause for concern that the government’s reporting of actuals was off by 0.41 percent of GDP (Rs. 53,146 crore). Second, due to advancement of the budget day, this year’s revised estimates were prepared using lesser amount of data on expenditure/receipts, because of which the probability of actual expenditure/receipts being different from revised estimates is higher. Third, due to uncertainty created by demonetisation, it is difficult to make good GDP and revenue estimates for this year. The budget has taken the GDP number from the economic survey, which differs considerably from the advance estimates put out by the CSO in January. Any numbers reported as percentage of GDP are subject to changes in GDP estimates.
Medium-term fiscal issues
Much has been written about the specific expenditure decisions in this budget. Except in a few areas, there is not much change in allocations this year. There are certain fiscal issues that need to be addressed in medium to long-term. Let us consider some of them and what this recent budgets has done about them:
The One-Rank-One-Pension (OROP) decision has exacerbated the trend towards more revenue expenditure. The decision is quite consequential, and in my view, it was not a wise decision from a public finance and pension policy perspective. It increased the pension outlay, and because of the way it is designed, it has also introduced considerable uncertainty in budgeting for pensions (see my column on some of the problems with the OROP decision).
Most of the modern restructuring of defence organisations in other countries has focused on trimming the forces of personnel, while building up and modernising the weapon system. China has reportedly completed an exercise that left its armed forces with 300,000 fewer personnel. The expenditure pattern in India may point at larger problems of procurement systems, policy priorities, and even our grand strategy. Since more than 70 percent of revenue expenditure in defence is incurred on pensions, pay and allowances, changing the pattern of expenditure will require some difficult strategic decisions that will have human resource consequences, which no government appears keen to take.
The biggest challenge across social sector schemes has been: how to shift away from a focus on inputs, and (to a lesser extent) outputs, and focus on achieving outcomes. Take the example of school education. While we have done reasonable progress on improving inputs (building schools, hiring teachers, etc) and outputs (enrolments, access to schools, etc), India’s performance on learning outcomes, as measured through learning tests, has been abysmal. In school education, central government spends just about 15 percent of the total expenditure (with sub-national government putting in the rest). It is now a marginal player in financing the sector, but continues to occupy the commanding heights on scheme planning and design. The challenge of improving outcomes varies from one context to another. Central government will need to rethink the way it uses its funds to drive change towards better outcome. States need to be given much more flexibility to innovate than they presently enjoy in practice.
Although the FM did touch upon the issue of outcomes in education, a concrete proposal has not been forthcoming. This is the situation across various social sector schemes. Government seems intent on continuing with the set ways, without doing the needful to reorient the programmes towards achieving outcomes. Each sector poses its own unique challenges, and will have to find innovative ways to deal with this challenge.
Food subsidy:Food subsidy is the difference between the economic cost of food grains and the price that government charges for them. Economic cost includes the cost of procurement, transportation, storage, etc. Till 2001-02, the issue price at which food grains were sold to those above the poverty line was close to the economic cost. The price for households below the poverty line was about half of the economic costs, and Antyodaya households (poorest of the poor) were charged a nominal price (less than a quarter of the economic cost). Since then, the subsidy regime has changed. In 2002-2003, the price for grains supplied to households above the poverty line was reduced (from Rs. 8 to Rs. 6.1 per kg for wheat; from Rs. 11 to Rs. 7.95 per kg for common paddy), while prices for Antyodaya and below poverty line households were not changed. The prices for all categories of beneficiaries have remained the same since then. In these 15 years, the economic cost for wheat has increased by 163 percent, and for common paddy by 190 percent. This has led to a massive increase in food subsidy bill. The Food Security Act had frozen the issue price for food grains for certain beneficiaries for three years, but that window is now open. It is time the government reviewed the rationale for keeping issue prices frozen for so long. Subsidy should ideally be set as a percentage of economic cost, and therefore, the price should be revised annually to track the economic cost. At the same time, reforms should be undertaken to improve efficiency to keep economic costs in check.
Fertilizer subsidy: since 2010, the gap between the subsidy for urea and that for other fertilizers has widened significantly. This is because urea was not included in the nutriend-based subsidy scheme that started in 2010. There is evidence to suggest that this distortion has led to excessive use of urea, which has hurt the nutrient balance of fertilizers being used. The proportion of nutrients in actual usage is now far from the ideal proportion (see Chapter 2 of the Economic Survey, 2013-14 for a discussion on this issue). Further, the subsidy regime in urea does not discourage inefficiency, as the subsidy amount varies from one manufacturer to another. These and other problems need to be addressed to develop a reasonable fertilizer subsidy regime. Many people have proposed good ideas, such as bringing urea into the nutrient-based subsidy regime, increasing the price of urea, moving towards direct transfer of subsidy, changing the urea subsidy regime to encourage efficiency, and so on.
LPG subsidy: Although the direct benefit transfer programme is reported to have reduced the leakages from this scheme, the substantive issue of the reducing the amount of subsidised LPG sremains. There is significant evidence to show that most of the LPG subsidy goes to the non-poor. The poor use smaller amount of subsidised LPG, and therefore avail of smaller share of subsidy. Therefore, this is appropriately called a “middle class subsidy”. The government had tried introducing a cap of 6 subsidised cylinders (about 85 kg of LPG) per annum, but this was later withdrawn, and the cap of 12 subsidised cylinders was restored. A good step taken last year was that the government has capped the per kg subsidy at a nominal amount, and over time, if this cap is not raised, the subsidy’s salience will fall automatically. Government has also taken steps to expand access of LPG to poor households. Now, the government should consider reducing the cap of subsidised cylinders to 6 or 8.
In the budget speech of 2016-17, the FM had announced a plan for strategic disinvestment (aka privatisation) from certain CPSEs, and set a target of Rs. 20,500 crore. The revised estimates suggest that while the government is likely to overshoot the target for disinvestment by about 11 percent, it will fall short of the strategic disinvestment by almost 75 percent. The target for strategic disinvestment proceeds in 2017-18 has been set at Rs. 15,000 crore. This year, Government also plans to list certain insurance companies, and collect Rs. 11,000 crore from the listing. Further, it has announced “a revised mechanism and procedure to ensure time bound listing of identified CPSEs on stock exchanges”. These are steps in the right direction. The system of disinvestment is a well-oiled machinery. However, there is a need to expedite the agenda of closing sick and lossmaking CPSEs, and privatising CPSEs that are in sectors where government ownership is not justified.
The FRBM-mandated Medium Term Fiscal Policy Statement serves only as a basic ingredient for fiscal discipline over medium-term. It includes top-down estimates. Since we no longer have any other medium-term anchor for budgeting, it is important for India to move towards a medium-term budget framework, which would help the government make better forward estimates and think about strategies across areas of expenditure, so that annual budgetary decisions for various schemes and programmes can be reconciled with the medium-term framework. This would require combining a top-down approach and a ground-up, negotiated approach to medium-term fiscal management.
Concerns about tax administration
The Finance Bill proposes certain amendments to the Income Tax Act to change the powers that tax authorities enjoy:
The amendment to 133C is potentially an improvement, as it might reduce arbitrariness in the issuing of notices. However, the other amendments mentioned above may have unintended negative consequences. There may be arguments in favour of these amendments. For example, it would be easier to protect the identity of whistleblowers if reasons to suspect are not disclosed. Provisional attachment during search and seizure could make it easier for tax authorities to extract revenues from tax evaders. However, the powers being given through these amendments can also be misued to conduct arbitrary searches and seizures, provisionally attach properties, and disrupt people’s lives and businesses, all without having to explain the reasons behind the entire process. Important checks and balances are being proposed to be diluted.
These amendments can be seen in the context of the 25 percent increase targeted for personal income tax collection in 2017-18. Government has proposed changes to tax rates that would lead to Rs. 15,500 crore lower personal income tax collection. Accounting for this, the targeted increase in income tax collection is about 29.2 percent. Between 2010-11 and 2015-16, the average rate of growth in income tax collection was about 15 percent. In 2016-17, because of the one-time collection under the income disclosure scheme, the rate of increase is estimated to be 23.35 percent. An increase of, say, 15 percent can be considered to be normal, and the additional 14.2 percent (about Rs. 50,000 crore) would have to be mobilised through special measures. Given the state of the economy, the only way to get a 29.2 percent increase is to expand the tax base by getting more people to pay taxes, and by making further demands from those who may be under-paying the taxes.
As the Economic Survey, 2015-16 (see page 109 onwards), pointed out, given our level of economic development, India’s income tax collection compares favorably with other countries. In fact, the Survey found that income tax collection is significantly better than expected at our level of economic development. For example, India’s income tax to GDP ratio is 2.1 percent, while the ratio for Brazil is 2.3 percent. To account for the theory that democracies tend to tax and spend more, the Survey controled for democracy as a variable, and the finding on personal income tax holds, albeit the overall tax to GDP ratio is lower than it should be. While the percentage individuals paying taxes is much smaller than expected, the amount of personal income tax collected is actually better than one would expect at this per capita income. This mismatch between satisfactory income tax collection and low number of income tax payers may be because income is concentrated in a smaller number of individuals, but this requires further research.
There is tax evasion and tax avoidance, but there may not be enough “low hanging fruits” that can be plucked to yield Rs. 50,000 crore of additional income tax collection over and above the normal increase in collections. The important issue is that expanding fiscal capacity is a long-term task that requires building capabilites in the tax administration, while upholding the rule of law and the basic principles of government accountability. In a context where income tax collections are good for the level of development, a target to deliver a huge increase in collections, may tempt the tax administration to use their expanded powers to take draconian measures to extract taxes. In the process, innocent people will get hurt. For example, the tax administration would cast a much wider net to go after those who deposited cash after demonetisation than they would normally have. This is not a good way to build fiscal capacity. Rule of law and accountability of government are as important, if not more important, than collecting more income tax.
This reading of the budget suggests that while the budget has got the basic housekeeping of fiscal management right, it is a middling performance on addressing important fiscal issues that need to be addressed in medium term. Further, the pathway chosen for fiscal consolidation, although not necessarily bad, is sub-optimal because of the state of the economy. Finally, the amendments to the Income Tax Act proposed in the Finance Bill should be reconsidered, because they may harm basic principles of rule of law and government accountability.
The author is a researcher at National Institute of Public Finance and Policy. Views expressed here are personal.