The Hindu Business Line : Off-budget liabilities pose challenges to fiscal operations

Growing extra-budgetary liabilities and enhanced expenditures on subsidies, loan waivers and salaries in the rest of the year may warrant ‘close and careful monitoring’ of fiscal situation.

G. Srinivasan

New Delhi, Sept. 9

Close on the heels of the cautionary observations of the Prime Minister’s Economic Advisory Council on the burgeoning growth of off-budget liabilities of the Government, the central bank has said that this might upset the fiscal applecart and prevent the benefits of growth from percolating down to the common man.

In its 2007-08 annual report released recently, the Reserve Bank of India put the issue in proper perspective when it said this is not merely one of transparency in fiscal operations or a de facto larger government borrowing programme than admitted, but of greater significance for the government debt market and monetary management.

Expressing its apprehensions unequivocally, the apex bank lamented that the issuance of bonds has been resorted to frequently for financing not only fuel, food and fertiliser subsidies, but also deferred liabilities with regard to bank loan waivers and contribution to the capital of public sector banks.

Quality concerns

Being the custodian of the banking system, the central bank knows the problems gnawing the entrails of the economy. Hence, the RBI contends that “the significant quasi-fiscal transactions to finance recurrent revenue expenditures through de facto borrowings create apprehensions about the quality of the fiscal consolidation process that is under way and poses challenges for fiscal, external and monetary management”.

Interest expenditure on account of these bonds would tend to escalate revenue expenditure and widen revenue and fiscal deficits. While the issuance of bonds does not directly increase the conventionally measured fiscal deficit, the proceeds from such bonds are used to effectively fund current subsidy expenditures.

Rightly, the bank argues their macroeconomic and financial market impact and the crowding out of resource availability to the private sector are akin to expansion of the fiscal deficit. It is small wonder that the RBI calls for efforts to improve tax buoyancy through widening of the tax base and further improvement in tax administration in order to ensure that fiscal imbalances do not diverge from the budget estimates.

Monitoring

In more than one place, the bank said fiscal developments in the early months of 2008-09 show some stress on the financial position of the Union Government. Growing extra-budgetary liabilities and enhanced expenditures on subsidies, loan waivers and salaries in the rest of the year may warrant ‘close and careful monitoring’ of fiscal situation.

It said fiscal policy generally tends to operate as a counter cyclical stabiliser, whereby during periods of aggregate demand pressure, government expenditure is contained, and higher revenue is generated, and during downswing, the government expenditure is stepped up and the revenue generation activity is slowed down. But in India, the rigidity in government expenditure hinders the operation of counter-cyclical fiscal policy as government finances are under pressure at a time when the economy is already facing demand pressures.

The bank has also made its point clear when it said that even as the insulation of the economy from temporary shocks flowing from higher international commodity prices could not be avoided, “withholding the pass-through of the permanent component of the elevated levels of commodity prices may continue to maintain the demand at the elevated level”.

Limiting crude impact

Here it goes further to assert that in view of India’s large dependence on crude oil imports, limiting the adverse impact of higher international oil prices would require adopting strategies of greater decontrol of petroleum product pricing with targeted subsidies, rationalisation of applicable taxes and duties to appropriate levels, and gradual but regular pass-through of prices to consumers so as to avoid the risk of large one-off adjustments in headline inflation.

Even as the central bank has commended the State governments for having come closer to meeting the objective of reduction in deficit indicators, it urged them to generate adequate fiscal space through revenue augmentation that could be utilised for financing development expenditure.

The generation of revenues through improvement in efficiency of tax collection and appropriate charges on public services assume added significance under the rule-based framework on account of implicit cap on financing of expenditure by borrowings, the bank reminds the State governments.

Practising prudence

In sum, the annual report of the RBI has reminded the authorities, both at the Centre and in the States, to practise the virtue of fiscal prudence and spare resources particularly at a time “when the Indian economy is undergoing structural transformation and it needs large investments in social and financial infrastructure”.

Having said this, it also does not refrain from saying that “when everything else fails, it is only the fisc that has to take the hit and come to the rescue”, underlining the crucial role of the fiscal authority in the wake of ongoing financial turbulences across the world.

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