The first thing that struck me was that the Budget speech by the Finance Minister did not really acknowledge the gravity of the economic situation, which is disappointing because if the seriousness had been acknowledged, they could perhaps have announced measures bring the economy out of the downward spiral.
Secondly, the government has tacitly acknowledged that under the current circumstances, there is very little it can do to revive the economy. The measures that have been announced may have a positive impact but in the medium to long run. For now, the situation will continue to be serious so far as the economic growth is concerned.
One important factors the government should have kept in view while deciding on the measures to be taken is that the economy has been in a downward spiral for a while. In the last few quarters, economy has plummeted from 6.5 to a sub-5 per cent growth. Unemployment rate is highest in the last 45 years. Consumption is totally flat. The gross investment rate as a percentage of GDP has come down to as low as around 29 per cent, which had touched a high of around 42 per cent in 2011.
There is huge distress in the rural areas resulting in impoverishment of those living in the rural areas, including the small and marginal farmers. In fact, there is a growing concern that many of those who had come out of poverty may have fallen back below the poverty line. We have also seen alarming fall in the gross savings rate as a percentage of GDP.
Considering all this, the need was to create a virtuous cycle creating strong impulses to start a consumption boom which would then incentivise private investment. Today most of the industry sectors are working at 75-80 per cent of their capacity. There is no incentive to invest, no matter what tax benefits then government may offer. If the markets do not support investments, the private sector will not invest. It is expected that a consumption boom would lead to private investment, which would result in job creation and better incomes, which in turn would have led to more consumption. This is the virtuous cycle that needed to be created.
For this, some things needed to have been done very quickly. One was the strengthening of the financial sector. Although the government has announced the stake sale in of IDBI Bank and LIC – we don’t yet know how this is really going to help – there is no real game plan in terms of how the financial sector will begin to start pumping liquidity into the economy. It must be noted that banks are flush with funds, having close to Rs 3.5 lakh crore in deposits among themselves, but the lending off take is very poor. So obviously there is a problem that needs to be fixed and this Budget should have looked at that. Similarly, NBFCs which basically provide credit to consumers for housing etc. are in distress and needed special attention. There was some relief given to some of the segments like housing before the Budget, but there was nothing much in the Budget for them.
Further, two major sectors that could have immediately provided jobs, helping create this virtuous cycle: real estate (construction) and auto sector.
There is a special dispensation for providing affordable housing etc, but this has been mentioned in Budget speeches for the last several years. Affordable housing is a very small subset of real estate, and therefore, without the credit flows affordable housing sector isn’t going to make a major impact.
The government should have provided some relief to real estate/construction sector. Incidentally, this sector provides maximum number of jobs to unskilled and semi-skilled rural labour which includes the landless as well as the small and marginal farmers who enhance their incomes by working on construction sites.
The automobile industry, which includes the entire chain of auxiliary and ancillary industries, provides a huge number of jobs in the organised sector.
Right now, this sector too is in doldrums.
The relief in taxation is also problematic. One, tax compliance has become more complex. From back of the envelop calculation it appears that with lower slabs the incidence of tax would be higher! So, it may a non-starter to begin with. The assumption that this will create surplus in the hands of the tax payer for higher consumption is a fallacy.
The abolition of the Dividend Distribution Tax (DDT) is only going to help the foreigners. With the dividends being taxed in the hands of the investors, it gets added to the investors’ income. So whichever slab these investors fall in – and they generally fall in the highest slabs of income tax – will start getting charged at the highest rates. Earlier the Indian investors would get the benefit because once the dividend had been taxed at 10%, it was tax free in the hands of the investors. Now, in the case of those in the highest slab, DDT has been made 40 per cent from 10 per cent for the Indians but the foreigners, who earlier paid 10 per cent, it will be 5 per cent.
It is baffling that the government chose to tweak the tax in a manner which is disadvantageous for the Indians. This will not really be conducive to investments, mutual funds or even in stocks. It’s not really going to help anybody.
The special dispensation to sovereign wealth funds is a positive. This will attract greater fund flow from this category of investors, presumably in the infrastructure sectors. The problem is that Indian capital market receives a lot of infusion from foreign investors – and sovereign wealth funds etc all come into this. Now they have been given additional benefits. However, there is a sterilisation cost or a carrying cost to foreign exchange. If a country builds up very large foreign exchange reserves, there is a cost to it. The RBI has to use up its reserves to sterilise it.
Economic Survey and Thalimonics
I’m a bit surprised because the Economic Survey has always been a very credible document. It used to be a very unique document because the government consciously allowed the Economic Survey to be independent of the government’s position. So, many times we would see that in the Economic Survey, the points that were raised may not have been in line with the government policy.
Economic surveys in the past bore the stamp of some very eminent economists such as Nitin Desai, Kaushik Basu, Arvind Subramanian, Raghuram Rajan etc. these were people of great standing. So, they resisted any attempt to influence their perspective which was amply reflected in the document.
Unfortunately, this time the Economic Survey has several weaknesses and rigours of economic theory and hard data seem to be largely absent. I was surprised to see Wikipedia as a source of data for several tables.
Chapters such as ‘Thalimonics’ carried in this year’s Economic Survey is okay as political rhetoric but to include it in a serious document like the Economic Survey doesn’t reflect well on the document.
The Finance Minister signs off on the Economic Survey. But of course, how much time the Finance Minister spends on reading it, or trying to understand it, varies from person to person.
(As told to Rahul Gul)
(Arvind Mayaram is a former Secretary, Finance to Government of India)