A fine-tuned budget that should not upset growth path

INDIA'S Finance Minister P. Chidambaram, until very recently, was heading to Budget 2007 quite comfortably. With a GDP growth rate over 9 per cent and foreign exchange reserves in excess of $180 billion, the Indian economy seemed to be well under control. But inflation and state elections created concern.

By Badal Mukherji

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Published: Fri 2 Mar 2007, 10:05 AM

Last updated: Sat 4 Apr 2015, 10:39 PM

The latter gets into the budget debate through the agrarian constituency that most MPs have. This perhaps explains why Chidambaram began his budget presentation on Wednesday with the statement that to him agriculture was the first priority.

However, with its share in GDP below 20 per cent, there is no way that agriculture can play a dominant role in the economy. There are two major policy corrections required.

First, in order to enhance productivity, infrastructure and technology bottlenecks in agriculture have to be lifted. Secondly, in order to provide gainful employment to a very large number of unemployed people, non-agricultural jobs must be found. Within a year none of these problems can be solved by an annual budget; if anything, it is a five-year plan that should address these issues. However, in the approach document of the 11th Five-Year Plan there are some general discussions on the subjects but no tangible policies.

To make a realistic dent in the unemployment problem the most important instrument is the small and medium enterprises (SME) sector. But I have not seen any serious understanding of the problems of the sector either in the approach document or in the budget. Vast majority of the SMEs do contract jobs for large corporates but get bankrupted because those contracts cannot be enforced. They get broke in court cases. The state must intervene with a suitable instrument and protocol.

As for inflation, it is observed that there has been 6.2 per cent increase in the wholesale price index, implying something like a 12 per cent increase in the consumer price index, which is not extraordinarily high but high enough to adversely affect the budget of the lower middle-class and the poor.

It is in order to grapple with this that Chidambaram has lowered the import duties, sales, excise and other indirect taxes; measures that will also increase imports and further lower prices.

Again, international steel, cement and petroleum prices have increased sharply, and the tax component of each of these has been substantially lowered. Whereas industry seems to be unhappy about the lack of any tax sops, they should be thankful that Chidambaram has still avoided the most powerful contra-cyclical instrument of inflation control, which is increase in private and corporate income taxes.

Indeed, if a combination of the monetary policy already instituted by the Reserve Bank of India (RBI) and the reduction of indirect taxes introduced in the budget fail to significantly lower inflation, then an increase in income-tax rates across the board will be inevitable.

Hindsight is so easy that I almost decided not to talk about mistakes of the recent past, but to the extent that they have a bearing on the current policy, they need to be sorted out. One of the biggest sources of generation of incomes is capital gain, both on land and buildings and on equity.

In a country where income distributions are so grossly skewed, capital gain must be taxed. But last year taxes on long-term capital gains of equity shares were in fact abolished. Last month there were published estimates of the loss of revenue on this account - it is somewhere between Rs150-250 billion.

The simple re-imposition of this tax will immediately mop up a substantial percentage of aggregate demand. The point I am trying to make is that whereas RBI has responded with the monetary policy to contain inflation, the discussions about the supply side problems are slightly irrelevant in the short run; there is serious need for appropriate management on the demand side.

With the savings rate of 32 per cent and the investment of 33 per cent, a good rate of growth is almost assured, especially as it is driven by the service sector, almost independently of what the government does. It is a matter of some concern that the service sector in turn is facing a very serious constraint in the form of supply of skilled manpower. I have not seen anything in the budget that takes this constraint head on.

I am afraid the problem of higher education is far more complex than a simple enhancement of budgetary allocation can handle. One needs not only a flow of quality students coming up through schools to colleges and universities and research institutions, one also needs just as importantly a matching supply of skilled teachers who can train the students.

But the academic scene has changed drastically in the recent past in as much as the top students going out of the universities are being bid away by the private corporate sector and hence there is nobody left for teaching at the higher level.

The consequence is that within a few years the same corporate sector starts bitterly complaining about the shortage of skills, without awareness of the fact that it is their own action that is partly responsible for the problem.

But this is not the full story; agencies like the University Grants Commission (UGC) have for decades permitted colleges and universities to virtually contribute nothing towards the cost of education. Both tuition for students and salary for teachers are miserably low. Growth depends on savings, investment and knowledge. I am afraid there seems to be no awareness of the last factor.

With the government losing its importance in overall economic activities, its responsibilities towards proper regulation of economy and towards social welfare increase substantially. But it has now become a standard practice that plan documents make noble statements about social welfare and budgets largely ignore them.

To sum up, this has been a carefully fine-tuned budget so as to least disturb the arrangement of policies that have generated such impressive growth as of the recent years, especially as that growth is almost entirely due to the private sector.

With large revenue collections in hand the state can turn to urgently required investment in infrastructure sectors. It will hope that better foodgrain output plus imports, wherever necessary, will, together with monetary policies already taken, help contain and lower the rate of inflation. But until such time as the analysis that explains the growth process is reasonably complete, no hard action on any front for who knows what might upset the apple cart! -IANS

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