The Hindu Business Line : Further reflections on the Interim Budget

BOUQUETS and brickbats are the lot of any public figure. More so for a Finance Minister who stretches the limits of constitutional propriety by launching an interim budget that promises more than it can legitimately get through Parliament, given its limited further tenure. The sops that Mr Jaswant Singh has liberally thrown before the public have come under attack, both for reasons of prudence and of Parliamentary propriety.

The sops are, however, not of a nature that will sink the fiscal boat, given their size and the large dimension of the economy. Propriety is another question. If the NDA does come back to power, the promises will doubtless be passed into law. If it does not, the new ruling party or coalition will find it difficult to "renege" on the promises made by NDA. A win-win situation all round!

A closer scrutiny of the detailed documents that Mr Jaswant Singh has laid on the table of the House raises some legitimate concerns.

The revenue estimates are highly dependent on the growth of direct taxes, particularly corporation tax. Corporation tax, which stood at Rs 16,467 crore out of a total tax revenue of Rs 111,000 crore in 1995-96, has risen nearly fivefold to Rs 79,546 crore in 2004-05 on a total tax revenue of Rs 300,000 crore. Proportionately, the dependence on corporate tax is increasing.

In particular, the Finance Minister apparently expects the recent trend of robust corporate results to continue to give him the bonanza of nearly 30 per cent a year. This is optimistic. Personal income-tax has, however, risen more slowly in the same period 1995-96 to 2004-05 from Rs 15,592 crore to Rs 46,301 crore.

The proportion of personal income-tax to corporation tax has been decreasing over the years. Is corporate income rising ahead of personal incomes?

Union Excise duties have always had a pride of place in India's Central taxes. In 1995-96, it stood at Rs 40,687 crore, about 33 per cent of total taxes. In 2004-05, it is expected to be Rs 107,000 crore, at about the same proportion of the total gross tax revenue. Customs duties have, however, risen more slowly reflecting lower tariffs on the whole.

Another important aspect of the Interim Budget documents is that the fiscal deficit/GDP reduction has been accomplished in spite of fall in certain items of revenue. Particularly, the contribution from profits and dividends has gone down. The figure has declined from Rs 17,861 crore in 2003-04 to Rs 15,375 crore.

The documents have, however, departed from convention, in that they do not disclose the break-up of contribution from the RBI as its surplus and other dividends. It is, however, generally known that one of the consequences of the RBI's large forex reserves has been a quasi-fiscal cost — its profits from investments of these reserves have been less than they would have been if invested in lending to government or other entities in India.

The exact magnitude of this drop is crucial — the RBI's distributed profits have, however, been left unstated in the documents.

There have been comments, both positive and negative, about the Finance Minister's "accomplishment" in regard to reduction of fiscal deficit to GDP ratio. Some have attacked it as a gimmick, mostly arising from assumptions of a higher GDP growth, which could be frustrated by a poorer monsoon or by inflation.

Conventional economics has it that deficits should be higher in a declining economy and lower in a booming economy. But this confuses cause and effect. A rising economy can also lead to a lower fiscal deficit. Comments on this aspect should be reserved.

The Finance Minister has unfolded a set of funds, both in his mini-Budget and his interim offering. It is not clear where he will find the resources to fund these funds. Will they also be "directed" funding, the banks being asked to contribute to Government-sponsored floatations?

The question is left unanswered. Hopefully, given the flood of forex reserves and consequent liquidity, banks will only be too happy to invest in such gilt-edged funds. But that is "diverting" funds from their legitimate destination — to corporates and farmers rather than to Government.

A similar objection has been raised about the Finance Minister using bank funds to achieve some of his Budget objectives. He has reverted to the practice of "directed" lending, in the sense that banks are asked to lend to farmers through credit cards, small and medium enterprises also through credit cards, at rates and below PLR — and that too set at precisely 2 per cent points below. "Market" freedom, in the sense that banks will decide the specific rates of lending, seems to have been forgotten.

Also worth mentioning is that this decision is appropriately the remit of the RBI, which "regulates" lending rates. Micromanagement of banking operations is perhaps too much for a Finance Minister to attempt. It is quite likely that Finance Minister will see the wisdom of restoring the powers to Mint Street and remain the source of advice and consent.

More aggravating than the declaration on the rate of interest to specified categories of borrowers is the announcement that the collateral to be asked for should be restricted to the size of the loan, especially to farmers.

Surely, there is merit in Finance Minister's point that farmers are collaterilising too much land and paying too high an interest rate. But if banks are spoon-fed specific directions on how much they should lend, they can well turn back on North Block and ask to be bailed out when such loans turn bad. The Finance Minister should guard against his decision creating a "loan mela" with a difference.

Much ink has been spilt on the issue of merger of DA with basic pay. North Block has disposed of it by pointing out that it was in line with the Pay Commission's recommendations — when DA gets above 50 per cent of basic pay, such portion deserves to be merged. Sure, there are fiscal consequences, mostly in respect of pensions.

This only shows the importance of keeping inflation under control. Not much attention seems to have been paid recently to inflation, especially at the consumers' price end. Hopefully, the implications of DA merger will drive the Government into closer consideration being given to inflation management.

The Finance Minister has announced a number of initiatives to "tweak" investment in the economy. He has particularly stressed public-private partnerships in infrastructure. The record of the last few years in regard to such partnerships has, however, not been too good.

His other initiative is in respect of strengthening IDBI as a lead institution. This, however, conflicts with the declared intent of converting IDBI to a bank, with a view to accessing larger deposits at cheaper rates on the ICICI model. Whether IDBI will be preserved as a long-term financial institution, at the same it becomes a bank, is not clear.

Dilution of the role of development finance institutions is inevitable once IDBI takes on the role of a commercial bank, like all other banks. Further, access to long-term funds at reasonable rates, such as those of LIC, is essential if IDBI is to offer finance to long-gestation infrastructure projects.

The complementary role of IDFC, another institution set up recently, needs to be clarified. By all means, let us strengthen the role of IDBI as a source of medium- and long-term finance. But unless the appetite for investment increases through improvement in the macro-economy, merely increasing availability of funds will not help.

One further point. On second thoughts, the Finance Minister's clarification regarding the taxation of multinationals or cross-border entities engaging in BPO operations has left much to be desired. The tax official has been given the discretion to determine whether the cross-border entity is taxable, depending on the charges the call centre receives.

The circular issued by the Central Board of Direct Taxes has not been improved upon, whatever the Finance Minister's intention may be/have been.

The Finance Minister has ended up striking a blow for the "unemployed" in the US. The US Congress and Senate are themselves trying to tackle this problem. Anyway, this is one of the Finance Minister's "interim" initiatives that does not augur well for India Shining.

A budget is as good as its implementation. One hopes the Finance Minister will pay attention to the various points of view expressed on his Budget. Surely, the million-dollar question is who will become Finance Minister in the next Government. If the NDA returns to power and then, as seems likely, Mr Jaswant Singh becomes the Finance Minister, he will have more than a man-sized job to ensure the effective translation of his interim promises into final performance.

A great deal, however, depends on how the monsoons turn out and how the global economy picks up. Notwithstanding the improved resilience of Indian agriculture, much still depends on the monsoons. Also, how the global economy behaves will determine our exports, both of goods and services.

The Budget continues to be a gamble on monsoons and on global economic prospects. That is a fact of life, which even as lucky a man as Jaswant Singh cannot avoid. Hope his proverbial luck continues to favour him as he plans to re-enter the portals of North Block and formulate a full Budget, which incorporates the visions of his interim effort.