Re-look the fiscal targets

The Government is going to present its Interim Budget for the year 2019-20. As this is the pre-Election Budget, there are expectations that it could be a populist and please-all Budget. This is especially more so after the election results in recent Assembly polls. However, the question is whether the government has fiscal space to do so when there are large downside risks on achieving FRBM targets in the current year, i.e., 2018-19.  As per the revised FRBM Act, Centre needs to achieve the fiscal deficit target of 3.3 per cent of GDP. But this is based on various assumptions, which have turned out to be quite different.  Some key assumptions that have not realised are GST collection of Rs 1 lakh crore each month, drop in the disinvestment proceeds, increase in the world oil prices, deceleration in the external demand (read exports), rainfall and its dispersion, etc.  Given these it is not clear both on the GDP as well as fiscal deficits whether the government could stick to the fiscal deficit target.  However, the final numbers could be available only by June. 

There is another serious issue with regard to the overall implementation of the FRBM act in the country.  Achieving fiscal deficit target of 3.3% alone should not be the aim as the Act contains three targets – fiscal deficit, revenue deficit and public debt.  All the three targets are internally consistent as well it would result in output expansion.  However, Gazette notification on 2 April 2018 indirectly says there will be no more revenue deficit concept. This was also cautioned by the recent CAG report.  In our view, FRBM is not fiscal compression, but is an expenditure switching mechanism. If one looks at the FRBM Act, it suggests to bring down the revenue deficit to zero while the fiscal deficit to 3%. Intrinsically what is happening is, it increases the public capital expenditure to 3% on the assumption this expenditure switching from consumption to capital will have a long lasting impact on the GDP. But we are more concerned about 3.3% while not worrying much on the revenue deficit. Now that the government has removed the concept of revenue deficit, one would not be surprised that major part of 3.3% could be on revenue expenditure especially in an election year.  This, in our view, is not expansionary. 

As the recent CAG report cautioned, the quality of expenditure matters a lot. It has also cautioned about off-Budget consumption expenditures which would show up on the public debt (or outstanding liabilities). As explained earlier, any relaxation of revenue deficit target while compressing the public capital expenditure to achieve fiscal deficit target could result in expansion of public debt.

So given the fiscal situation what could the government do in the interim Budget?  In my view, like in the past, the impact of election cycles on the Budget is inevitable and this may be reflected in the forthcoming Budget as well.  Couple of areas that may be considered is addressing the distress among farmers and the MSME sector. While there are pressures of loan waivers, as many states have already gone for, there may be efforts to introduce cash transfer schemes as it was implemented in Sikkim, Telengana and Odisha.  On the MSMEs, the focus would be largely to generate employment.  Hence, incentives to enhance the MSME sector through some fiscal measures could be another option.  As the sector was adversely affected by the twin shocks of demonetisation and GST, such support measures could be needed to incentivise the sector.  However, the pressure of these measures may not be shown up on the Budget as the implementation of any populist measures could be left to the new government!

But how far the domestic banking industry would support any new populist measures is an important question.  Right now the banking industry is still facing many downside risks. Most of the big states have already declared loan waivers.  Added to this, Mudra loans are also facing stress.  All these could weaken the banking sector and its recovery could take a very long time.  But this could ultimately put pressure on the fiscal situation.  On the taxes side, there are speculations about revising direct tax slabs upwards.  While this issue is pending for quite some time, if implemented, one needs to assess the revenue foregone due to such measure, which in my view, may not be much. 

Overall, it is going to be a tight walk for the government in terms of balancing the pressure of Elections while at the same time sticking to the fiscal consolidation road map.  But what is most important is to re-look at the tight fiscal targets suggested by the FRBM Act.  Based on the performance of the successive governments in achieving the targets, one can understand that the risks in achieving the fiscal targets are higher.  Hence, it is important to arrive at flexible fiscal targets with a range rather than point estimates that we have right now.
(The writer is Professor, NIPFP, New Delhi)