Saumitra Chaudhuri &=
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p; Feb. 16, 2009
26 K G Marg,
Urgent Reminder: We need to Retur=
n to
Fiscal Prudence
Two lines in the Finance Minister’s speech b=
ear
repetition: (a) “48. Constitutional propriety requires that (the) new
Government formulates the tax and expenditure policies for 2009-10”; =
and (b)
“61. ….conditions in the year ahead are not likely to be normal
and, therefore, the high fiscal deficit is inevitable. We will return to FR=
BM
targets once the economy is restored to its recent trend growth path”=
.
It is amazing that so many in the business world a=
nd
media seem to have subscribed to the puerile notion that this government wo=
uld
undermine the prerogatives of the one to be formed after the elections in
setting tax and expenditure rates and levels for the year. It is a warning =
that
an excess of cynicism is unproductive in understanding public policy. A lit=
tle
reflection would have made it abundantly clear that what the government fel=
t it
needed to do, it did between October and December 2008. Including, had it
warranted, issuing of an Ordinance(s) to amend Act(s). Holding something ov=
er
to mid-February surely does not persuade in the argument of urgency and wou=
ld serve
parliamentary and constitutional institutions poorly.
It has become the fashion today to talk about
“fiscal stimulus” as if it was a newly discovered elixir. Resor=
t to
fiscal “pump priming” was indeed the default mode of much of the
public finance thinking, if not the actual framework, in the decades after
World War II. The problem with a stimulus is that, like all other stimulant=
s, too
much of it taken for too long, gives one a nasty headache and all manners of
health problems. Which is why, governments across the world began to wind d=
own
their state of over-extended government and public finance from the 1980s. =
What
followed was a revival of economic growth, one that has lasted over a quart=
er
century.
But some were never convinced and many, many others
remembered crude Keynesianism fondly. As Harvard macro-economist Robert Bar=
ro
said in a recent interview, “maybe they have some opinion that they g=
ot
from graduate school.” And this absence of conviction is why poorly
thought-out humungous public spending is viewed as a panacea for a crisis
caused by poorly-supervised humungous sub-prime loans.
We were criticised at the time for being backward-=
looking
and much more. But having learnt the lesson that thick skins are better than
badly burnt ones, we did not adapt our banking and finance to fit into the
model of “New Banking”. That is origination (like mad) and
distribute (likewise) model, which is at the heart of the present financial
crisis in the US. But this does not automatically give us immunity to any f=
iscal
excess being now served up: Flashy, new-fangled ideas that sound too glib m=
ay
have set off enough alarms when it came to banking, but the strains of the
fiscal stimulus music is one that reminds us of an old love.
For many years, an influential strain in our econo=
mic
thinking saw public expenditure as an unmitigated good; large deficits of
little concern and the central bank as a midwife to financing the deficit. =
Ideological
positions are invulnerable to facts. It has taken us decades to come around=
to
the sober view that finance is a resource which in the hands of government
should be used with prudence. And, that such resources have alternative and
often more productive use in the private sector.
This year the fiscal deficit of the central govern=
ment
is likely to be 6% of GDP. If we add to it the Rs 95,942 crore of Oil and Fertiliser Bonds, the central government’s true deficit i=
s 7.8%
of GDP – an enormous increase over last year. For 2009/10 the Finance
Minister is projecting a fiscal deficit of 5.3%, in a continuation of the
fiscal easing in force this year. Hopefully, there will be no Oil and Fertiliser Bonds next year. Add to that the State
governments’ fiscal deficit and we are looking at a combined deficit =
of
about 10% in 2008/09 and perhaps 8% next year.
These are very high levels of government borrowing=
. Some
commentators have opined that elevated levels of government deficit could m=
ove
the bond yield up. This might well happen. However, over the next year or s=
o, we
need to bear in mind that there exists Rs. 105,000 crore of Market Stabilisation Scheme (MSS) Bond=
s,
which are sequestered by RBI; i.e. government pays the interest on these bo=
nds,
but cannot use them. Stock of MSS B=
onds
has come off its peak of Rs 178,000 crore last year and will fall further as
the mostly shorter-duration securities mature. RBI can accelerate the proce=
ss
by buying back these bonds. So, courtesy of the MSS Bonds, government has in a cushion left of Rs. 105,000 cror=
e.
Factor that in, and the borrowing programme for 2009/10 (market loan of Rs.
308, 647 crore) will look much less daunting.
As the economy recovers and private sector investm=
ent
demand and its appetite for funds revives, public finance must track back t=
o a
path of lower fiscal deficits that is consistent with rapid expansion of
private spending and hence higher economic growth Especially so, given our previous i=
nfatuation
with the idea of a fiscal locomotive.
[Tot=
al
number of words excluding title: 859]
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