India’s economy @ $US5trillion: From ambition to action

As the fastest-growing major economy, India is slated to drive global growth in the current and the next fiscal. The poise with which India managed the pandemic impact and navigated from negative growth in the first two quarters of FY2021 to positive growth in the next four consecutive quarters deserves praise given the prolonged pandemic induced uncertainty. ?

As the Finance Minister presents the Union Budget 2022, she will have the complex challenge of balancing this pace of growth with keeping the fiscal deficit in check, against the backdrop of the likely impact of the new COVID wave and rising inflation.?For this Budget, choosing growth to aid recovery will be advisable - if growth and private investments take off, fiscal deficit will gradually come under control with lesser need for the Government to borrow.

I make a case for a more calibrated return to fiscal consolidation as a more suited policy at this juncture for the country and how action on reforms is the right long-term strategy.

Fiscal policy: key to growth

The latest MOSPI estimates indicate that India’s real GDP growth for the current fiscal is expected to be at 9.2%. At this growth, India’s output in absolute terms is likely to be about Rs 147.5 trillion in FY2022, which is a mere 1.3% growth over Rs 145.7 trillion output achieved in FY2020. The impact of the current Omicron wave may pose some hurdles for this growth. With inflation gathering momentum, RBI may be constrained to increase or maintain the current repo rate. Thus, monetary policy may have a limited scope for supporting growth.?In this milieu, an impetus on investments and capital expenditure through a supportive fiscal policy is the need of the hour to achieve the country’s ambition of US$5 trillion.

Fiscal deficit

The FRBM Act, 2003 envisaged Centre’s ?scal de?cit to GDP ratio to be reduced from 5.8% in FY2003 to 3% by FY2009. ?After achieving a low fiscal deficit of 2.6% of GDP in FY2008, due to the global ?nancial crisis, the deficit increased sharply to above 6% of GDP in the next two years. ?

Since then, the government brought it down to 3.4% in FY2019. ?In recent years, the deficit has again exceeded the targets due to several challenges and developments including tax reforms like GST and the reduction in corporate income tax (CIT) rates.?In FY2020, it stood at 4.6% of the GDP, however increased to an unprecedented level of 9.2% due to the pandemic and increased need for Government spending. For the current fiscal, the government had budgeted a fiscal deficit of 6.8%.

The Fifteenth Finance Commission has provided a benchmark glide path for fiscal consolidation that envisages a deficit of 5.5% of GDP in FY2023, reducing it by 0.5% points in each successive year to reach 4% by FY2026. A 4% fiscal deficit can be accommodated for some more years, beyond FY2026, even though it is higher than the FRBM target of 3%. This is possible because the effective interest cost has been falling over the years. ?

Expansionary budget

This year has seen high growth and buoyancy in Centre’s gross tax revenues (GTR) partly due to the low base effect as also higher nominal GDP growth because of high deflator-based inflation. In the first half of the current fiscal, GTR grew by 64.2% and tax buoyancy stood at 2.7. ?In the first eight months of this fiscal, GTR has recorded a 50.3% growth. This is significantly higher than the corresponding pre-pandemic numbers in FY2020. The buoyant revenues have also been aided by the government’s consistent focus on compliance and the use of technology to reduce evasion.

Indications are that due to high WPI based inflation expected in FY2023, the nominal GDP growth will continue to be higher than the real GDP growth by 6-7% points.?Accordingly, Centre’s gross tax revenues for FY2023 are likely to increase by 25%. ?

With the robust tax revenues, the government is in a much stronger position to accelerate infrastructure spending. However, to meet the fiscal deficit targets and maintain India’s credibility, Centre’s borrowings should be calibrated and be contained to about 5.5% of GDP in FY2023.

Accelerate capex reforms

The government has announced visionary plans for capital expenditure including the National Infrastructure Pipeline (NIP), National Monetisation Plan and Disinvestments. Expeditious implementation of these projects will help drive the capex in the private sector as well, whose balance sheets are currently deleveraged and looking healthy.

NIP planned an investment of Rs 111 trillion from FY2020 to FY2025 with the objective of improving project efficiencies and attracting investments into infrastructure. With three years about to lapse in March 2022, it is time to assess NIP’s performance in terms of its sectoral targets and financiers. It should be done before the FY2023 budget so that adequate budgetary resources for capital spending may be allocated to make up for the deficiencies. In fact, this would be the right time to redefine the sectoral role as well as investors and recast the NIP for the next three years, as NIP 2.0.

The government should be complimented for successfully kicking off the PSU privatisation exercise?by the sale of Air India . However, the target of realising Rs 1.75 trillion through disinvestments may be a challenge in this fiscal. A higher target may be provided for the next Budget and the government should focus on the early conclusion of strategic sale in other PSUs, especially in the commodity sector. ?

In addition, early implementation of the?National Monetisation Pipeline ?of key infrastructure assets will open fresh opportunities for the private sector to invest in projects.

Reforms and ease of doing business

The government has consistently focused on structural reforms across sectors to address supply side issues and has also improved ease of doing business to make India more efficient and competitive. ?These measures must continue to reduce time and cost overruns for businesses.

The government may examine decriminalisation of economic laws for procedural defaults, on the lines of that done for Companies Act and LLP Act. Instead of prosecution and imprisonment, heftier penalties may be put in place to act as a deterrent.

On the tax front, the CIT rate reduction fulfilled a large aspiration of the business community. Taxpayers would like to see a stable, equitable and predictable tax regime.?Tax rates on dividends for residents should be brought down and capped to 20% to maintain parity with non-resident investors. The current capital gains tax structure needs an overhaul for bringing consistency in tax rates and holding period for different asset classes. ?

The dispute resolution scheme introduced in the last Budget for resolving disputes in a faceless manner should be implemented at the earliest and made available to the broader category of mid-sized and larger taxpayers. The Advance Pricing Agreement mechanism should be strengthened through capacity building for expeditious rulings. ?Regarding GST, the legislative reform and rate rationalisation will help achieve its true potential.

Growth momentum

Despite the pandemic, we are witnessing a buoyant global environment. India has received a large pie of the Emerging Market investment inflows over the past year and the optimism in the country’s growth potential is at an all-time high. The private sector is also bullish, much supported by a strong capital market.

By accelerating the execution of reforms, ensuring that schemes like PLI and RoDTEP take effect on the ground and by providing for greater capital spending in the Budget, the government has the opportunity to significantly propel the investment cycle. With the availability of capital, combined with strong balance sheets of the private sector, the government can address triple objectives of rekindling demand, growth in the manufacturing sector and employment generation.?

The article first appeared in the 6 February 2022 issue of Business Today https://www.businesstoday.in/