On the right track to fiscal discipline

On the right track to fiscal discipline
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First Published: Thu, Mar 01 2007. 02 57 AM IST
Updated: Thu, Mar 01 2007. 02 57 AM IST
Given the backdrop of robust economic growth and strong business confidence, one was essentially looking forward to stability and continuity in this year’s Budget and that is exactly what the finance minister has provided. The Budget has continued on the path of increased allocations to social sectors, stability in the direct-tax regime and, of course, the fiscal discipline path as outlined in the Fiscal Responsibility and Budget Management (FRBM) Act.
Considering the development needs of our economy, it is always a challenge to balance the need of higher allocation for social objectives with the imperatives of fiscal discipline. But, over the last three years, the government has been doing a commendable job with this balancing act. The tax buoyancy resulting from strong economic growth has also helped to a great extent.
Fiscal deficit has been brought down to 3.7% of GDP in the current year, improving upon the target of 3.8%. For the next year, fiscal deficit will be brought down to 3.3% of GDP. Thus, the government will be on course with regard to the FRBM goal of reducing fiscal deficit to 3% of GDP by 2008-09. More importantly, fiscal discipline is being adhered to, even while increasing government spending in crucial areas of agriculture, health and education.
A noteworthy aspect of the Budget estimates is that the fiscal deficit will be lower than interest payments next year. In other words, the government will meet a part—albeit a small part—of its interest payment obligations from its current accruals and not from borrowings. This is certainly a positive development.
Another positive aspect of the fiscal discipline process of recent years is that it has been largely achieved through improvements in the tax-GDP ratio. The tax-GDP ratio has increased from 9.2% in 2003-04 to the targeted 11.8% in 2007-08. Commendably, the increase was achieved not through higher tax rates, but through stronger economic growth and better compliance.
The composition of government’s tax revenue has also turned more balanced now—with direct taxes contributing almost as much as indirect taxes.
While government appears to be almost on track with respect to its fiscal deficit target under FRBM, the progress is somewhat less impressive when it comes to revenue deficit. The FM has targeted a reduction in revenue deficit from 2% of GDP in the current year to 1.5% next year. As per the FRBM target, the revenue deficit will have to be wiped out by 2009. Thus, a very large part of the reduction in revenue deficit has been left for the last year of the FRBM correction phase.
It would be indeed challenging for the FM to meet this target in the next year’s budget. While increase in tax-GDP ratio will provide some part of the correction, the government will also need to effect substantial correction in revenue expenditure next year. Several items of the revenue expenditure are quite rigid in nature. Thus, it may need some really innovative ways to curb revenue expenditure next year, including some reduction in the subsidy burden.
On the whole, this Budget has continued on the path of fiscal discipline. Lower deficit means lower government borrowings, reduced pressure on interest rates to rise, higher savings ratio, a greater play for the productive segments of the economy and, ultimately, higher economic growth. Staying on course with the FRBM targets is, therefore, one of the most positive aspects of this Budget.
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First Published: Thu, Mar 01 2007. 02 57 AM IST
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