Budget 2024: The challenge of fiscal consolidation

The interim Union Budget 2024-25 was presented on Thursday against a backdrop of steady economic growth and moderation in inflation in the Indian economy, and complex geopolitical developments with global challenges of regional conflicts and war.

The budget speech mentioned inclusive development and growth, social justice, farmer welfare, and empowering the poor, youth and women, with an emphasis on governance, development and performance. In the areas of economic management, people-centric inclusive development and proactive inflation management are important policy priorities.

Recognising that infrastructure development is a key to economic growth, the government has focused on capital expenditure outlay, as this expenditure has massive multiplier impacts on economic growth and employment creation.

The fiscal strategy priorities for FY 2024-25 are:

a) Focus on a more inclusive, sustainable and more resilient domestic economy

b) Channelising and allocating resources towards capital spending

c) Strengthening fiscal federalism by enhancing public infrastructure

d) Ffocus on integrated and coordinated planning and implementation of infrastructure projects

However, with the fiscal policy priority and strategy seen in conjunction with fiscal consolidation efforts, one wonders whether issues relating to fiscal sustainability have been adequately addressed.

Fiscal sustainability is good housekeeping by the government, and involves determining whether the government can continue to pursue its set of budgetary policy strategies (in the present and probable future policy settings) matching its resource ability.

The key deficit indicators, viz. fiscal deficit (total expenditure minus revenue receipts and non-debt capital receipts which includes disinvestment of assets and recovery of loans), revenue deficit (revenue expenditure minus revenue receipts) and primary deficit (fiscal deficit minus interest payments) relative to GDP are budgeted at 5.1 per cent, 2 per cent and 1.5 per cent respectively.

Fiscal deficit represents the borrowings of the government and consequently the debt of the government. The revenue deficit represents the negative savings of the government administration as the government is borrowing for current consumption. The primary deficit represents the current operation of the government and the higher primary deficit questions the sustainability of fiscal policy.

In the interest of fiscal sustainability, a revenue deficit and primary deficit should be zero, and as per the Fiscal Responsibility and Budget Management Act 2003 (amended in 2018), the fiscal deficit should be 3 per cent of the GDP and debt to GDP ratio should be 40 per cent of the GDP.

However, in marked contrast to this, fiscal deficit and debt to GDP ratio are budgeted at 5.1 per cent and 57.2 per cent, respectively. A budgeted revenue deficit of 2 per cent of the GDP is a pointer towards unsustainable economic growth as it pulls down savings and consequently investment.

Let us now turn to the fiscal arithmetic presented in the interim budget. The gross tax revenue as a proportion of the GDP is budgeted at 11.69 per cent, and after adjusting the states' share as per the recommendations of the finance commission, the net tax revenue is budgeted at 7.99 per cent of GDP. The interest payment in 2024-25 budgeted at 3.63 per cent of the GDP pre-empts 32.6 per cent of revenue expenditure. This development needs to be addressed in the context of higher borrowings and higher debt level. A strong fiscal consolidation path is the need and a priority.

One welcome move in the budget is higher provisioning for capital expenditure at 3.39 per cent of GDP during 2024-25. However, a critical glance at budget arithmetic reveals that in 2023-24, the budget estimates provided Rs 10.961 lakh crore, but in the revised estimates, it declined by Rs 50,715 crore to roughly Rs 9.50 lakh crore. This trend of making a higher provision in the budget and reducing it in the revised estimates is against fiscal prudence.

Weak fiscal consolidation questions fiscal sustainability, particularly in the context of a higher revenue deficit at 2 per cent of GDP. It is pertinent to note that higher revenue deficits compel the government to borrow more, and thereby the debt or liability of the government increases.

The higher liability of the government results in higher net liability as assets become lower than liabilities. For example, the net liability of the government (liabilities minus assets) stood at nearly 33 per cent of the GDP on average during 2018-22. This development questions fiscal sustainability and sooner or later, government should attempt to make the revenue deficit zero.

The major challenge to fiscal sustainability remains visible in a relatively higher revenue deficit, the absence of a primary surplus and the threat of a vicious cycle of deficit and debt. In addition, there is the structural imbalance in the form of a high revenue deficit. This results in the pre-emption of borrowing for consumption expenditure, thereby rendering capital asset creation for social and economic services difficult.

Against the above backdrop the government should focus on the following sustainability indicators.

i. Rate of growth in total debt should be lower than the rate of growth in nominal GDP

ii. Real interest rate should be lower than the real GDP growth

iii. Fiscal deficit to GDP ratio and debt to GDP ratio should decline gradually and remain stable

iv. Revenue deficits should gradually turn to revenue surplus

v. The primary deficit should gradually turn to a primary surplus

vi. Repayment of past loans are a stress factor, as this increases market borrowings in gross terms and could have adverse implications on the interest rate.

vii. Creating fiscal space by enhancing fiscal empowerment (maximise revenue to the budget)

In conclusion, the interim Budget 2024-25 has presented a two-fold fiscal policy stand to provide a) positive impulses to the growth environment; b) to make the domestic economy more resilient to global headwinds.

This fiscal policy stance faces challenges in terms of inflation management at 4 per cent under the flexible inflation targeting adopted by India. It is important to note that the nominal GDP growth for 2024-25 has been projected at 10.5 per cent, assuming a growth rate of 6.5 per cent in real terms as presented in the January 2024 'World Economic Outlook' by the IMF.

To manage “the final descent of inflation target to 4 per cent is a tremendous challenge for the monetary policy authorities in India”, the IMF said. In this context, it is pertinent for India to note what the IMF says: “…a renewed focus on fiscal consolidation to rebuild budgetary capacity to deal with future shocks, raise revenue for new spending priorities, and curb the rise of public debt is needed.”

Dr R.K. Pattnaik is a former central banker and professor at Gokhale Institute of Politics and Economics, Pune. Views are personal

Syndicate: The Billion Press