Don’t let go of the low-hanging fruit

Finance Minister Arun Jaitley has been inundated with advice on what he should do to kick-start the economy.

The expectations are immense and the Budget is widely expected to be a pointer to the economic policies of the Government.

Given the state of the economy — two successive years of sub 5 per cent GDP growth, persistently high inflation, high unemployment, high real fiscal deficit and investor sentiment at rock bottom — the degree of freedom available to the finance minister is severely curtailed.

So what should the finance minister’s focus be? I believe he should concentrate on five issues: (i) fiscal consolidation, (ii) job creation through boosting manufacturing, (iii) increase savings in order to boost investments, (iv) inflation control, and (v) improving investor sentiment — both domestic and foreign.

The Interim Budget of 2014-15 had projected the fiscal deficit to be 4.1 per cent. This is based on rather optimistic projections of revenue generation — for example, tax revenues to increase by 21 per cent — and expenditure jugglery.

It is highly unrealistic considering that fiscal deficit in the first two months of the financial year has crossed 45 per cent of the total for the year!

Clearly, the Government needs to garner fresh revenues. Two possible sources are disinvestment and sale of government equity in some private companies. The disinvestment target of ₹37,000 crore in the Interim Budget can easily be doubled to ₹75,000 crore taking into account better market sentiment.

Sale of the Government’s shares in HZL, Balco and the SUUTI (Specified Undertaking of the Unit Trust of India) companies — ITC, Axis Bank and L&T — should yield another ₹75,000 crore. There is no economic justification for the Government to hold on to minority shares in these companies.

A couple of years ago, the then finance minister indicated that there were about 42,800 people in the country who admitted to a taxable income of over ₹1 crore.

It does not take a Bobby Jasoos to deduce that this is a gross understatement; realistically, at least one if not two zeros could be added to that figure.

The survey wing of the income tax department could be strengthened to ferret out those hiding in the woodwork.

Another source of revenue could be a realignment of service tax. Assuming that GST would kick in from FY2016-17, and that the rate would be 16-18 per cent, the ST rate could be increased from the current 12 per cent to 14 per cent which would yield about ₹30,000 crore.

On the expenditure side, subsidies need to be rationalised: subsidies on food, fuel and fertiliser constitute nearly 2.5 per cent of GDP, with food subsidy projected to be ₹1.25 lakh crore as it caters to 67 per cent of the population. Considering that the most pessimistic estimates show poverty to be about 33 per cent, there is no need to give subsidised foodgrains to double that number.

The last few years have witnessed jobless growth in a country which is adding about 12 million job-seekers every year. Unemployment rates have soared. It is clear that unless we boost manufacturing, this army will remain jobless.

The Government’s new manufacturing policy has not got off the ground.

Its main pillar — the national investment and manufacturing zones which require vast areas of land — is unlikely to be erected in a hurry given the tedious procedures under the new Land Acquisition Act, 2013.

The Government should focus on MSMEs, which are the backbone of the economy in terms of their share in GDP, exports and employment. Two of the biggest impediments MSMEs face are lack of institutional financing and over-regulation in terms of ‘inspector raj’.

According to the fourth census of MSMEs, only about 5 per cent of them obtained finance from institutional sources, 2 per cent were financed by non-institutional sources, leaving the balance 93 per cent to fund for themselves.

There has to be unconventional thinking if financing of MSMEs is to be addressed satisfactorily. Two ideas could be considered: (i) Transfer of lines of credit of large manufacturing units on a pro-rata basis, to smaller units which make parts/assemblies for the larger manufacturers.

This has been a successful model in South Korea. (ii) License smaller banks as international experience is that it is only the smaller banks that lend to MSMEs.

The savings rate as a percentage of GDP has declined sharply from a peak of 36.8 per cent in 2007-08 to 29.7 per cent in 2013-14. Consequently, the investment rate fell from about 38 per cent of GDP in 2007-08 to perhaps 31.4 per cent in 2013-14.

The decline is compounded by an increase in the incremental capital output ratio as a consequence of projects which are stuck, for example, power plants for lack of fuel. Apart from increasing the savings rate, the effort has to be to shift savings from physical assets to the financial sector.

Controlling inflation is an imperative but difficult task. The textbook approach of demand compression through higher interest rates has boomeranged. Investment has contracted.

Food inflation in the last three years averaged 11.5 per cent, of which the highest rate was for vegetables, followed by fruits. At a conservative estimate, about 30 per cent of our fruits and vegetables rot because of a lack of a cold chain from the farmer to the consumer.

Moving fruits and vegetables out of the purview of agriculture marketing companies and a positive thrust for enhancing investment in cold chain facilities is urgently required.

Investor sentiment has soured in the last couple of years. Domestic and foreign investors have been spooked by instability in the tax administration — retrospective tax amendments, GAAR — and the paralysis in governance.

So while FDI declined, domestic industry found investing abroad more reliable. The Budget should, therefore, put all doubts about ‘tax terrorism’ to rest and welcome investment, both foreign and domestic.

The large size of the Indian market is an attraction which investors would make a beeline for provided there are no negative policies, for example, the new land acquisition law and overzealous environment warriors.

The paralysis in governance is largely due to civil servants feeling threatened by even their bona fide decisions being given a criminal hue. While Prime Minister Narendra Modi has assured all secretaries of his support, it may not be adequate.

There is an urgent need to re-examine Section 13(1)d of the Prevention of Corruption Act as well as Section 6A of the Delhi Special Police Establishment Act which was struck down by the Supreme Court recently.

Failure to do so will inhibit bold decision-making. In sum, this Budget will set the tone for the Government for the next five years.

The writer is a former finance secretary to Government of India

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