Managing the fisc won’t be easy at all

Madan Sabnavis | Updated on August 04, 2020

Ratchet effect Shortfalls in the Centre’s revenue translate into the same for States, which in turn have to cut back on expenditure   -  ISTOCK PHOTO

With tax collections below target, the Centre will possibly resort to higher market borrowings, thereby raising bond yields

One of the biggest casualities of the lockdown is the government. All governments need money to function and if revenue does not increase it is hard to meet committed expenditure. There is a solution in the form of higher borrowing, which is possible for the Central government, which must only ideologically steer away from FRBM. But States find it hard to manage, and end up cutting discretionary expenditure.

The given Table gives revenue collections for the Central government in the first quarter of FY21 along with the comparable figures for last fiscal. The revenue shortfalls this year can be directly linked with the shutdown.

Industry impact

First, income tax collections are lower by around ₹35,000 crore. There are three reasons for this. To begin with, there were job cuts by several corporates, especially in the service sector, which directly meant a lower salary bill and hence tax payments. Second, companies also have lowered the salaries of their staff by different scales for the year. This means that total payouts will be lower by 5-20 per cent for existing employees, which in turn will affect income tax collections. Last, all companies disburse their variable pay, which goes under performance-linked pay or bonus, to their employees in the first quarter. The fourth-quarter as well as FY20 results of companies showed decline in both the topline and bottomline. Hence, the payouts to employees were lower, which gets reflected in a one-time loss for the government.

Second, the preliminary results of companies that have been announced for Q1 FY21 indicate a continuation of the trend of falling sales and profits, which is understandable as April was a total washout for all. With profits declining, the tax outflow would also come down, which is reflected in the lower collections so far. While Q2 would also be lacklustre, it may be hoped that there would be some pick-up in Q3 and Q4, which can help steady collections and avoid a sharp fall in this period.

Shortfall in collections

Third, the major casualty is the GST, where there has been almost a 50 per cent decline. The GST is imposed on all goods and services and is a consumption tax. For tax collections to increase, it is necessary for consumption to go up. The lockdown has meant that people are not allowed to step out of their homes, a condition which persists with several restrictions even today. Further periodic lockdowns, which are localised, have ensured that households have not shopped for anything beyond essentials, which also have lower GST rates. For the first two months, e-commerce was not allowed to deliver non-essentials. The result was less spending and lower revenue for the government.


With limited removal of restrictions till September it is unlikely that there will be any pick-up and the government will witness sharp fall in GST collections. For the year, ₹5.8 lakh crore has been targeted and ideally at least ₹1.1 lakh crore should have been collected this quarter.

Fourth, while the trade deficit has been widening with imports declining faster than exports due to a sharply falling economy, which lowers demand as well as crude prices, customs collection too have declined by around ₹24,000 crore. This also does not look like it will compensated for in the future, as imports would continue to move in a downward trajectory.

The Central excise collections have more or less been maintained, and this can be attributed to the government increasing the duty on petrol and diesel as well as sin products. If these items were subsumed under the GST, the government would have had no control over the collections.

Economic effects

What are the implications of such sharp slippages in meeting targets? The first consequence is that the State budgets would get affected. Out of total tax revenue collections of ₹24.23 lakh crore, transfers to States should be ₹7.84 lakh crore. This is apart from the grants given to carry out Centre’s development programmes. During the first quarter, the transfers to States were ₹1.34 lakh crore as against ₹1.49 lakh crore last year. There is hence a ratchet effect here, where the shortfalls in the Centre’s revenue translate into the same for States, which in turn have to cut back on expenditure.

The second implication is that the Centre has to take a tough call on the expenditure side. So far this quarter, the total expenditure has been higher by around 13 per cent at ₹8.16 lakh crore. This is mainly due to the relief expenditure invoked, that was said to be outside what was budgeted in February. Two possibilities exist. One, there can be a cut in capex during the year even though so far, the government has enhanced such allocations to keep spending up. The second is that there could be some sharp cuts in subsidies. As the government has announced it is giving free foodgrains to the poor for six months, it would obviate the need to provide any food subsidy separately. This is why the food subsidy bill this time is much lower than that of last year.

The last implication is that higher borrowing will be necessitated due to a higher fiscal deficit. It should be borne in mind that with the government slashing interest rates on small savings drastically in April, there will be a lower allocation of funds. Hence higher market borrowing will be necessitated. It is probably keeping in mind this development that the government has already increased the borrowing programme from ₹7.8 lakh crore to ₹12 lakh crore for the year. Such borrowing will definitely have a bearing on bond yields, and this is why they are still quite intransigent in the downward direction, even though there is surplus liquidity and the RBI has brought in a new benchmark security that had a lower yield. The market remains uncertain.

The writer is Chief Economist, CARE Ratings. Views are personal

Published on August 04, 2020

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