M Govinda Rao, director of the National Institute of Public Finance and Policy, and a member of the Prime Minister’s Economic Advisory Council, is one of the top experts in public finance in the country. Ahead of the presentation of the 2008-09 budget, he spoke to Mint on a range of issues, including the fiscal concerns and the scope for tax reforms. Edited excerpts:
Is the government’s fiscal deficit under control?
M Govinda Rao, director of the National Institute of Public Finance and Policy
The 2007-08 fiscal deficit target is only 0.3% more than the final 2008-09 target of 3% of gross domestic product (GDP) as laid down in the Fiscal Responsibility and Budget Management (FRBM) Act. And they will have perhaps achieved more than that. That is because the tax revenues were budgeted to rise by only 16% while, in reality, they got a 40% increase in income-tax collection. It can turn out even better.
Why the worry on fiscal deficit?
One of the fears everybody has is that of shortage of funds for flagship programmes. My answer to that is, given the absorptive capacity of the system, even if the government had made abundant allocations, the money wouldn’t have been utilized. And if it has not been utilized, it will not create a runaway rise on the expenditure front.
The problem will only arise when the Sixth Pay Commission’s recommendations come in, but it won’t be a big problem. Last time (during the Fifth Pay Commission awards in 1996), the recommendations had made a difference of 0.7-08% of GDP. That order of increase can be easily absorbed this time. Our income-tax revenue has given us enough leeway.
What about off-budget liabilities created by the government due to the FRBM Act?
The difficulty is with regard to the liabilities created on account of petroleum prices, the Food Corp. of India expenditure, and the fertilizer prices. These off-budget liabilities add up to around 2% of the GDP. In a cash budgeting system, you can always postpone liabilities. But how long can you postpone? I have a feeling whether they want it or not, at the end of the day, they will have to carry out the petroleum price hike (This interview was conducted before the government increased prices). Though we don’t know how much they will do. I am not really certain that these prices (crude) will come down because of the US-induced slowdown. If it does, we don’t have a problem.
There are quite a number of other ways this gap can be filled. Unfortunately, the stock markets are down, else the government could have come out with a number of IPOs (initial public offerings) and raised some money by offloading public sector stock. They were supposed to go to the market for REC (Rural Electrification Corp). Even ITDC (India Tourism Development Corp.) is waiting to be tapped.
I really don’t think that the fiscal targets given in the FRBM Act is not achievable. The government can handle that. Of course, off-budget liabilities are a problem, but the government can continue to push things under the carpet.
Look at the FRBM Act. It says if you skip a target, you have to explain why you have done it. Countries do that. For the government, this is an Act it has imposed upon itself, there is no constitutional curb. But yes, there is a question of credibility. Last year the finance minister said he was taking a pause on revenue deficit. So they won’t take a pause again. The Act says you have to restrict your contingent liabilities to 0.5% of GDP, but you have exceeded it by another 1%. To that extent, the government will try and adjust some of it within the deficit or by raising the oil prices. I don’t think there is a big deal in that, though what actually has happened will be known only after the elections are over.
Is this a standard practice?
From the point of view of good practice and of transparency, it is important to show these expenses as off-budget items. That’s the reason I have been saying rather than talking of the fiscal deficit we should talk of overall public sector borrowings.
What about revenue deficit, flagship schemes and absorptive capacity?
We won’t be able to achieve the revenue deficit target of 0% by 2009. It will be substantially low, true, but achieving a reduction of 1.5% (of GDP) in one year is just not possible.
The real game is the absorptive capacity. The government says it has allocated big money on these schemes but actual spending is usually less than what is budgeted. Under NREGA (National Rural Employment Guarantee Act), you will give employment only when the people have registered, but actual registration is much less, so the money is not spent. Implementation can never be uniform anywhere, especially in such a huge programme. Many of the states have not yet spent the money allocated to them under these. They have taken the first instalment, but haven’t come back for the second. The rural development ministry may have given out impressive figures. That is their job, but we have to see how much is the ratio of the money spent in proportion to that allocated, which gives the absorptive capacity.
What about state governments?
They are in very good shape. That is not to say the states will not be dented by the Sixth Pay Commission awards, they will be. State electricity boards are not in a good condition, these are their (the states governments’) offbudget liabilities, but the Centre is in a better position to absorb them this time than last time. If the interest rates don’t start going down, growth might be affected.
What about tax reforms?
They should proceed closer to the goods and services tax (GST). That means rationalizing the excise structure, reducing the rates, converting the specific duties to ad valorem duties (except in the case of tobacco products), and by extending the service tax to all services with maybe a few exemptions. That will give us substantially higher revenues. For instance, taxing rail services will get us a packet.
As for direct tax, it should be useful to get rid of all surcharges and education cess. That much can be easily given from the Budget. Finally, there should be one rate of tax. Of course, the Left parties will protest, they like their fig leaf. But if you look at all the exemptions, virtually there is one rate of tax now.