Interpreting India

Analyzing India's Union Budget 2020

Episode Summary

Guest host, Anirudh Burman and Suyash Rai analyze the impact and implications of the Union Budget 2020 on the Indian economic landscape.

Episode Notes

Guest host, Anirudh Burman and Suyash Rai analyze the impact and implications of the Union Budget 2020 on the Indian economic landscape. 

References:

  1. Union Budget 2020 by the Ministry of Finance, Government of India
  2. Backstage: The Story Behind India's High Growth Years by Monetk Singh Ahluwalia

Episode Transcription

 

Anirudh Burman: Hello and welcome to Interpreting India, a podcast presented by Carnegie India. Every two weeks we bring to you voices from India and around the world. As we unpack the role of technology, the economy and foreign policy in shaping India's relationship with the world. I'm Anirudh Burman and I will be guest hosting this episode of Interpreting India. 

On February 1, the Indian government introduced the union budget on the floor of the Lok Sabha. This budget was introduced in the context of an economic downturn that many are calling structural in nature. Stakeholders were interested in seeing what steps the government would take to address this issue while maintaining fiscal discipline at the same time. In this episode of Interpreting India, we aim to Analyze the Union Budget 2020, its approach towards addressing India's economic slowdown, and its larger implications for the Indian economy. To discuss the budget I'm joined today by my colleague Suyash Rai who is a fellow at Carnegie India. His research focuses on the political economy of economic reforms and the performance of public institutions in India. Suyash, welcome to interpreting India.

Suyash Rai: Thank you Anirudh for having me on the show.

Anirudh Burman: To start off, can you reflect on the context in which this union budget was presented and the expectations from the budget.

Suyash Rai:So as you know, Anirudh, there's been a slowdown in the GDP growth rate. There have been six consecutive quarters of growth slowing down and the most recent quarter for which have the data - that's July-September quarter - the GDP growth was at 4.6%, which is very low. And even if you look at the components of GDP other than the government expenditure - the consumption expenditure financed by government - all of the components have been growing at a very slow rate. So, that's the main context. Other than that, uh, in December and January the consumer price inflation had increased quite significantly. It was about 7.4, 7.6% in these two months. And that's well above the inflation target that is given to the monetary policy committee. So we are going through an economic slowdown and inflation seems to be picking up. So it was a very difficult context to be presenting our budget, which as you know in India is a master document for policy pronouncements. It's not just about the book keeping of the government, but also, uh, creating sentiments, building confidence in the economic strategy of the government and so on and so forth. These were the expectations and that was the context in which the government was presented.

Anirudh Burman: Right. And I think in this context, the finance minister presented an unusually long budget. What are the two or three major takeaways you would like us to think about or to reflect on?

Suyash Rai: The main takeaway from the budget, uh, is that the government is trying to achieve fiscal expansion while also facing a very difficult fiscal situation. So, because the economy is slowing down there, it seems that the government is mindful of the need for it to spend more, and, boost up the economy. The only component of the GDP that is growing rapidly is government finance consumption and expenditure. All other components – private consumption expenditure, capital formation, other net exports – all those are not growing rapidly. 

Uh, but it is facing a very difficult time. Uh, in 2018, 19, there was a big shortfall on tax collections. Compared to the budgeted tax collection, the, uh, actual tax collection was less, much less, 18% was the projected tax collection growth, and they got only 9%. And for 2019-20, it's been even more difficult. The gross tax revenues have grown at only 3%. So that's the main source of, uh, stress, fiscal stress. Uh, other than that, every year you have some things going well, something's going badly. And, uh, but in spite of this difficult fiscal situation from 2018-19 to 2019-20, they have, managed to achieve a fiscal expansion of 12.2% GDP to 13.2% of GDP. So the total government expenditure was 12.2% of GDP in 2018-19. And it is now reported, with the revised estimate, to be at 13.2% of GDP in 2019-20. And, uh, it is now, again, budgeted to increase to 13.53% of GDP in 2020-21, which is the coming year for which the budget was presented. Now if you look at the 2019-20 fiscal expansion, it is very substantial, right? Almost 1% of GDP. It was made possible by a few things which are one off. I mean, you can't do them all the time. Three key factors contributed to it. First, RBI gave an extraordinarily high dividend to the government. And that was basically a conflict between RBI and the central government on how it should, how much economic capital the RBI should keep. There was a committee set up to look into it and there was some resolution of that conflict. And the one outcome was RBI gave a very large dividend, to the government this year. The second big factor that enabled this kind of fiscal expansion is that, uh, you know, that in the center’s tax collection, part of it goes to States. right nNow, uh, in any given year, the, uh, state, centre only comes to know only from at at the end of the year, how much is its tax collection, in actual tax collection.

Suyash Rai  (06:13):

While during the course of the year it keeps, uh, sharing the tax with the States. And what happens is that if the actual tax collection in the given year is lower than the tax estimate, uh, revised estimate for that year. Then in the following year, the government, uh, gives the, uh, state less or more depending on how the actual tax collection has been to adjust. In 2019-20 there’s about 59,000 crore rupees less given to the States to adjust for 2018-19 tax collection shortfall because the actual tax collection in 2018-19 was much less than what was reported in the revised estimate stage. So that freed up a large about 0.4% of GDP roughly of fiscal space for them. It's like a one off and that helped. And the third factor that helped is they invoked the escape clause in their fiscal responsibility and budget management act, which is the budget law for India, which allows the government on certain grounds to uh, breach the fiscal deficit limit that it has set for itself.

At thatis time, tThis limit they had set was 3.3% Of GDP, but they have actually reported 3.8% of GDP in the revised estimates. And they have added a statement a three paragraph statement saying that this has been done because of structural reforms such as the corporate tax cut that was given last year. Only last year they had a restructuring of the corporate tax rates and that has cost them something and they're saying that we got told that they will do this year, But if you were to look forward and whether in 2020-21 they'll be able to achieve the fiscal expansion, I don't know because two of these factors are one off, they're not going to repeat themselves again. That was one big takeaway. Trying to achieve fiscal expansion in the midst of the fiscal crisis. Couple of other takeaways. One is that there are certain budgetary practices that had questionable budgetary practices that had crept into the budget making process in the recent years, especially from the 2017-18 onwards, which have now been normalized.

 

Well, let me explain. So what government has been doing very extensively from 2017-18 onwards is to use extra-budgetary resources for its own expenditure. So these are two types of resources. So one is that there are some government owned firms, some government promoted firm from public sector enterprise, issues bonds, which are fully serviced by governments, interest as well as principal, is paid by government. But it doesn't sit on the government's books. It sits on the public sector enterprises’ books. the money is used for payment for Pradhan Mantri Awas Yojana, Swach Bharat, other government schemes, subsidy schemes. So there is nothing to do with the public sector enterprises’ business or I mean commercial activities. So they have been using that as a way to pay for schemes. The other is, uh, there's been a lot of lending happening from the small savings fund, which is the postal savings fund to public sector enterprises for again government subsidy or services schemes.

 

And, uh, that these are the two types of primarily extra-budgetary sources that have been used more extensively from 2017-18 onwards. And now in the budget speech over there, I heard it and I read it also they have made it more formal and it seems to have a normalized that we will continue to do this.

Anirudh Burman: So what does nominalization mean? How do you.

Suyash Rai: Now they've added an annex to the budget speech, specifically listing all the extra budgetary resources. And they have also, for example, uh, in foods subsidy what used to happen until last year is that the, the beginning of the year they used to put a large amount in the budget, during the course of the year,they used to release less, and the remaining used to be borrowed by the Food Corporation of India from the small savings fund, primarily. From this year, they've put the budgeted amount also as less, So they've reduced the allocation and put in the budget itself that Ffood Ccorporation will borrow from the small saving fund to pay for the food subsidy because food corporation of India is the, uh, organization that implements essentially the food subsidy because it procures the greens at some price and releases at a—less--s lower price. And the difference is primarily the main, main, mainly that's the food subsidy in India. So that's a second big take, a takeaway. And, uh, the third takeaway is more of on the fiscal marksmanship that I think year after year we are getting the fiscal marksmanship wrong that we put some numbers in in the budget on how much we will collect as taxes in the budget about how much we'll collect on taxes, how much of the non-tax revenues we'll collect. Year after year we get the spectrum auction projected budgets wrong because, we are not able to foresee what's going to happen, but even in tax we're not able to even, not even the same ballpark. There's a huge difference between what is budgeted and what is actually realised.

Anirudh Burman: They also underachieve on disinvestment every year

Suyash Rai: Yeah. disinvestment is another big problem in which we are not able to project in the beginning. And this, that's in the nature of the beast itself. There's a process of doing the, uh, transaction, which we are not able to, uh, manage during the course of the year. We make some projections at the beginning, but we're not able to, uh, uh, meet at the end. But on that one point that I've also took away from the budget on disinvestment is that because this is a tough time, it's a fiscally stressful time, uh, it has created some impulse in the government to try and make big ticket transactions. 

Suyash:

So you as you know, they've been trying to sell AirIndia. I mean they have not succeeded yet, but they're trying, they've also recently approved a large public sector corporation, like Bharat Petroleum, uh, Container Corporation. They are very big ticket transactions. They also announced a listing and partial disinvestment of Life Insurance Corporation. And these kind of things, you couldn't have better than normal fiscal game. So that's another, I would say takeaway perhaps.

Anirudh Burman: So on the issue of fiscal marksmanship, what do you think is driving this? Why is the government getting it wrong In consecutive years? What is the issue.

Suyash Rai: I don't know. I think that that question that people in budget division can answer well, but uh, one part of it has got to do the GST. Uh, it's a new tax, it's a big reform that is happening and it'll take its time to stabilize and it is very difficult to make projections on GST collection at the beginning of the year. So part of it has got to do with that, but we also getting it wrong in other types of taxes. So direct taxes also, and I think there's something going wrong in understanding of how economic activity is going, projection of economic activity, because ultimately taxation is on income and consumption. So if you're not able to make good projections on how in the income and consumptions are going, uh, you, you will end up getting your tax projections wrong.

Anirudh Burman: Uh, on the spectrum, again, it seems like there's some kind of a disconnect between even an elementary understanding of what's happening in the telecom sector and what is put in the budget. They put a very large target this year, more than a trillion rupees, one, 1.3 trillion rupees for spectrum auction. And you know, what's happening in the telecom sector, these firms are in a deep financial distress and how will they be able to raise? I think the basic commonsensical application of uh, uh, understanding & application of what is happening in the economy is missing in, uh, making these projections. And that's then leading to these kinds of problems. 

And it's also tied to the problem of extra-budgetary resources. Even if you get your projections wrong, you're able to find ways to get money into these schemes and other things that you've committed for because your sense of the hard budget constraint is not quite there. Because you put some budget at the beginning of the year and put inflated expectations on tax collections and other types of of collections. But if during the course of the year you were wrong, that would have been painful otherwise. But now that you can move part of that expenditure to off budget, um, extra-budgetary resources. That sense of hard budget constraint is also missing. So there's less discipline overall in the budget management system and that makes it easier for you to get with poor fiscal marksmanship

Anirudh Burman: The other question I had was just to come back to this issue of borrowing from small savings funds, do you think there'll be some longterm adverse consequence on the fund itself? Because there's a lot of borrowing from the small savings fund taking place.

 

Suyash Rai: So, uh, because the borrowing is, uh, most of it is going to uh, either governments or public sector enterprises and when it's going to public sector enterprises, there is an understanding it seems that over time government will keep making good on the promise to pay the public sector price for incurring the bill. So it will continue. The system will continue for the foreseeable future. it's not going out into other domains. But as you see there is a short fall in the small savings fund, they, the more than a trillion rupees of gap between the total value of the investments of the fund, and the total liability that it has, and it's been expanding year after year, that shortfall has been expanding. Someday this issue will come to a head and some government will have to put up some money. It's not a given because it's a public account and it's not a given that it is the government's liability, but I mean this is included in the public debt, this liability on it, but it is not a given that at some point government has to put in this one lakh crore rupees, then it will have to make good on it. It'll have to make a decision someday on it. But that shortfall is expanding and year after year it's been just kind of can has been kicked down the road.

Anirudh Burman: So we are effectively just pushing on the, pushing out the burden onto a future parliament or a future government. 

 

Suyash Rai: Yeah, future generations.

 

Anirudh Burman: So, coming back to this idea of providing some kind of a stimulus in the context of the economic downturn, this year's budget also, it increased the government's capital expenditure by about 20%. That's what they're estimating. And at the same time, they've tried to reduce income tax slabs. So is this going to be effective or do you think there was scope to do something different or something more?

Suyash Rai: Uh, on the capital expenditure, it is true that they have, uh, achieved a modest increase. Uh, so in from 18-90 to 19-20, there's been a small increase in the capital expenditure, the percent of GDP. So year on year percentage that you have to look at the, uh, normalize it through the GDP. So it was 1.6% of GDP in 18-19, in 19-20 they've got to more than 1.7% of GDP. As far as I remember. But, uh, if you look at the overall situation that capital expenditure is a very small part of the government budget, much smaller than it should be in a country like India. We need to be spending much more in building capital assets. Even in defence, we should be spending much on defence modernization, spending more on buying weapons and building more technical capabilities. In infrastructure we should be putting in money. Government. has expressed its intent to do that, but its not actually putting serious money. Iin this year, they've achieved a modest increase, that's for sure.

it it, it should help if it's implemented properly and so on and so forth. On the income tax side I'm much more optimistic about this new structure. I mean how and what kind of impact it will have. So they've given an option to individuals - if you have any savings and if you invest those savings in a tax exemption, exempt avenues and where deductibles are there, then you will be able to benefit from the old system more or less. I mean depending on your specific situation situation, but if you don't have any savings and, and you'd basically end up spending everything, then this new structure might help you more. Then you'll end up paying less tax and that additional money that is in your hand may help boost some of the consumption expenditure. The lower middle class and level laterals are kind of an upper middle class, lower middle class, those kind of incomes.

It'll help you a little bit on the consumption side. It's a very empirical question. We'll have to see, we don't observe sitting here how people will choose between these two different options that they have been given.

Anirudh Burman: This also presumes that at least part of the downturn is because of a slowdown in consumption. That if you put more money in our consumer's hands, you're going to see some kind of a revision or the uptick of the economy.

Suyash Rai: There is a slowdown in consumption. It also shows up in the GDP numbers. It's been also in reported by different sectors, uh, from FMCG to automobiles to various sectors that their sales have been falling. And GDP also. You see the slowdown in the rate of growth of private consumption. Until recently, it was one of the drivers of, uh, uh, growth, uh, only government consumption expenditure and private consumption expansion were driving growth. Exports and uh, investments are not picking up. But now even that has slowed down. So they're trying to put some more money in people's hands so that they can spend more.

Anirudh Burman: So one more question I wanted to ask you about was this whole idea of talking about a number of schemes or projects without a clear sense of what is going to be the fiscal outlay or the expenditure impact. For example, this year's budget has stuff like starting a study in India program for foreign students and it has taught some stuff about building best practices on disaster resilience and it's not clear from the budget what amounts are being allocated for it, what is the desired outcome and so on. What is your take on this?

Suyash Rai: So there are two parts to it. One is that the budget speech is often used for making policy announcements, which may or may not have fiscal consequences. I don't like that practice because budget speech should be about budget. But they do use it.

The other problem is more to do with the fiscal management approach that we have, especially the expenditure management approach. We have this approach that if a problem comes up from some department or a ministry or some proposal comes, we create a small scheme. We put 50crore, 20 crore rupees into it and we say, okay, let's get started and then we'll see how it goes. That approach has led to a plethora of schemes. We have now 685 central sector schemes which are fully paid for by government and 30 centrally sponsored scheme. which are paid for by government but also shared by the state, state government sharing of expenditure and it's just if you look at many of these schemes, they are very small schemes focused on some specific problem. Some of them have been going on for years, for decades. They've been renamed, put into some umbrella but still they exist.

This approach to expenditure or usually, I mean in my sense it betrays a lack of strategy on what the government is trying to achieve through expenditure. And at the level of development that we have in India, we need to be very careful about expenditure prioritisation. We have a huge amount of demand on expenditure for solving real public good problems, Real market, Other market failures - on externalities. Uh, overcoming information asymmetry problems, real problems of market failures are remaining unaddressed and in the process we are trying to create these cute little schemes on this or that. Make sure that Indian students or foreign students can come and study in India, you have some scheme for that, Indian students go abroad and work there, you have a scheme for that. Every social problem, it seems, ever political, economic problem, there's some little government's scheme that can solve it.

Over a period of time, it adds up. And there are lots of such schemes with questionable outcomes. Even with questionable outputs, and inputs also. And it'll be good at least to look at many of these from a fresh pair of eyes and say what do we want to achieve with them over medium term, say, five years. And have some kind of a sunset clause built in the schemes - that they will be shut down after a point and then uh, if they will be continued only if there is real evidence that they're working and all this machinery is missing right now. It's more of an iterative process, which happens year after year, after year. Look at last year’s allocation, you try to increase it. There's some negotiation, but the strategic approach is missing and the consequence of that are the 685 schemes. There used to be more than 1000 by the way. Now some have been merged together and we have 685.

Anirudh Burman: So we are getting better.

Suyash Rai: Only on paper because merging schemes doesn't mean that the schemes are getting lesser. The work continues. It just means you have got fewer headings.

Anirudh Burman: On a related issue, uh, I was also struck by the fact that pensions in the are increasing at such a huge base in the defence budget. What's going on there? I mean, it's become a fairly large component of the overall defence budget over the past few years.

Suyash Rai: Yeah. So, uh, if you look at the, when, uh, so this, uh, there is a larger trend of pensions increasing, there's demographic issues and all behind that. But there was one decision, the one rank one pension decision that was taken and after that there has been further acceleration in the increase in pension outflow of the government and it's far outpaced the increasing expenditure on defence overall. So I wrote about this also that the overall defence expenditure is growing in single digits some 7-8% while the pension defence pensions are growing at 17-18%. If you look at the last five years, the average, uh, the compounded annual growth rate. So, because the government has taken a decision to restructure defence pensions altogether on the principle of one rank, one pension and that will have its fiscal consequences. And my sense is that, I haven't seen the details on it, but the way the policy was set up, it was going to lead to an increase in pension outflow, and a large part of increase is coming from that.

Anirudh Burman: It seems like a big step back because for the larger bureaucracy. We introduced our national pension system to kind of rationalize our pension liabilities so that we could actually not be in this situation for the rest of the bureaucracy.

Suyash Rai: Yeah. I don't want to re-litigate the OROP debate. I mean we've had it and it went one particular way. Uh, but it is true that for the entire bureaucracy, outside of the armed forces, uh, you have defined contribution pension, which is contributory. Government contributes and, depending on the market returns, you get a pension. It's also true of all the security forces, which are outside of the military. Parliamentary forces have defined contribution. Police forces have a, so all of them have, uh, that pension. And here we have got a defined benefit patient, which is now has also added an OROP principle to it.

Anirudh Burman: So I want to move on to another theme in this year's budget, which was about building trust around tax administration and the criminal justice system and the economic sector. And there were two or three big announcements made. One was the implementation or the introduction of a taxpayer charters that would be prepared by the tax department. The other was a scheme to reduce tax litigation, income tax litigation that is currently stuck in, uh, tribunals and courts. And the third was about rationalizing criminal offenses in the companies act. So can we go through these, uh, each of them quickly just to see what it's actually going to do or whether it's actually will have the intended benefit. So for example, the taxpayers charter, I think the announcement is that there'll be a charter made by the income tax department. It will kind of constrain the behavior of tax officials. What do you think of that?

Suyash Rai: What does a charter do? A charter primarily achieves two purposes, which are basically two sides of the same coin. One purpose is that it clarifies to the taxpayer what rights do they enjoy with respect to the department. And the other side of the same coin is that it also holds the department accountable to the taxpayer about how they should up their game to uphold these rights. Now, what is the situation today? We already have charters. So CBIC for indirect tax we have a charter. CBDT also has a charter. It's not like the charters are not there and some of them actually include if you look at it, uh, specific deadlines for assessments and uh, uh, investigate for, uh, for responding to taxpayers, assessments and all of that. And what this budget is doing, what speech says is that they're putting it in the law.

They amended the income tax act, uh, to put the charter there. But if you look at it more closely and I looked into the finance bill which has proposed it, it has just one sentence and it says that the CBDT which is the authority that is the authority for direct taxes is going to uh, adopt and implement a charter. That's all it says. Now just think about it that if it's totally left to CBDT to adopt and implement then how is it going to be different from the current charter? If you want to update a little bit and you want to increase the stakes and increase their accountability, you have to put at least put some basic principles of the charter in the law itself, because that law cannot be amended by CBDT itself, while the charter can be amended and changed by the CBDT on its own will. So I think from a design point of view it is not a good design to make sure that this principal agent problem is managed.

Anirudh Burman: And taxpayers also need some mechanism to be able to enforce this.

Suyash Rai: The law does not say, the amended income tax act is not going to say what are the penalties, what are avenues for seeking penalty against the department if the charter is not followed. It's basically given as something that is nice to have.

Anirudh Burman: Uh, the other scheme was the Vivad Se Vishwas scheme which was a kind of amnesty scheme where you basically, uh, the tax department waives off the penalty and interest on the litigated tax assessment if you agree to pay their tax. Uh, and the rationale given was that there are about 4 lakh, uh, cases in the currently stuck in litigation related to income tax or direct taxes. And that we need to ease the burden off the courts but also be able to collect some of this revenue. So do you think this is actually going to lead to more trust within the system and also meet the intended objectives of the government?

Suyash Rai: If you have an amnesty scheme like this, uh, it could help some people who are tired of going through the litigation. They want to use it and they want to just close the case and move on with their lives. It'll help them. It'll also people who are wrong, people who have actually tried to evade taxes and then they come and they find a cheaper way to solve the problem. They just pay the taxes and move on. I mean their wrongdoing was kind of didn't get punished with penalties and so on and so forth. But if you are actually law abiding and you are stuck in a dispute, which is actually not a reasonable dispute, I don't think this is a fair way to resolve the problem. So if you look at the data on tax disputes, the government is heavily litigious. If in a lower court, if in a appellate tribunal there is a, uh, the government loses, it very often appeals. They've changed, they've changed that threshold for them recently.

Couple of times 2019. In 2018 they have changed thresholds for appeal but they are still very, very litigious. That’s just one part of it. The other is that they lose vast majority of the cases. In the income tax appellate tribunal, which is basically a tribunal comprised of, I mean large number of the people who sit there are ex revenue officers, it's not the most adversarial of the tribunals from the government's point of view. But the government loses three-fourth of the cases. So it is the government that initiates a lot of these disputes and because there's an incentive to initiate and continue disputes with the, with the taxpayers and, and unless governments cleans up its own house and make sure that litigation is based on some serious ground and there's, serious kind of evidence that somebody has done a wrongdoing. Just government losing three-fourths of the cases in a tribunal which is very friendly overall in terms of just potentially, I don't know how they are, they may not be acting independently, but at least if I look at the constitution of the tribunal, I would say that this is not an adversarial and a hostile kind of tribunal for the government is a point to be to be considered.

And schemes like this disproportionately favor those who actually did the wrongdoing because they get a cheaper way out. While if you actually have a wrong tax demand on you and you're fighting against that, why would you settle?

Anirudh Burman: So what you're basically saying is that the amount of litigation we are seeing is a symptom. It's a symptomatic cause of what is actually going on.

Suyash Rai: There are underlying problems, in the way the laws are written and the way they are implemented, the way government makes tax demands, the way they choose to file an appeal or not.

Anirudh Burman: And the third part was a much broader undertaking. Which was to try and rationalize some of the offenses under the companies act.

Suyash Rai: Yeah, that's a very good idea. We have not seen the details on it yet. So I mean they've said that they will consider and review and then make the appropriate amendment to the companies act, but I think it's very much required. In recent times you've seen a lot of hue and cry on the criminalization of the CSR related offenses, for example.

There is a general problem in India of trying to criminalise lot of economic activities, which could be just civil offenses. You can just put a penalty and move on, you know compoundable, make it compoundable. But if they start down this road, there's a lot of clean-up to be done. It'll be good to have it done.

Anirudh Burman: So you're going to actually make them civil offenses where you're allowed to just pay a penalty and then move on. Right. Thank you so much Suyash. Before we end just like to ask you, what do you, what are you currently reading that you would like to recommend to our listeners?

Suyash Rai: So presently, I'm reading this book, Backstage by Mr. Montek Singh Ahluwalia, who has been a very important feature of our policy landscape - He is a policy economist who's been around in the system since the late seventies. So I'm reading his story about India’s reforms and why things were done the way they were done. So a very interesting book.

Anirudh Burman: Thank you, Suyash.

Thank you for listening to this episode of Interpreting India. A podcast presented every two weeks by Carnegie India. For more information about the podcast and the production team, you can follow us on social media and visit our webpage.