GOING BY QUICK ESTIMATES, the Indian economy came back to its pre-pandemic level in second quarter of FY23. These are first estimates without the low base effect as there was a base effect even in Q1 because of pandemic in Q1 of previous year. Estimates show that whether in exports or manufacturing, recovery in growth is tepid. The only place where we have seen some growth is consumption. But even that is offset by very high inflation. So, India has lost two years of growth, and the current growth picture is not good. This is the context in which one needs to look at Union Budget 2023-24 and the government’s ability to spend more to spur growth.
To set the record straight, we were faced with tepid growth last year and the year before that also, which is why the government said in previous years that it will expand public spending on capital expenditure to trigger growth. If that has happened, the intended result, higher growth in current fiscal, is not visible. Here is the catch. If Central government capex is just a substitute for other public sector capex, it will have little impact. Some recent analysis suggests the overall capex of Central government, states and public sector put together has gone down this fiscal. If that is correct, the increase in Central capital expenditure is just substituting the decline in capex by states and the public sector.
We should also note that we are in a low growth, high inflation environment. It is the prime minister's prerogative to decide what are revdi transfers (non-merit subsidies/freebies) and non-revdi (merit subsidy) transfers, but all transfers will boost consumption. Even non-GFD (gross fiscal deficit) transfers stimulate consumption. But the danger with stimulating consumption through transfers in a high inflation environment is that it will increase inflation further. These are the twin challenges the Budget needs to respond to. Now, what are the options before the government to increase actual capital expenditure?
The obvious choice (if there is no money to further increase capital expenditure) is to borrow more and, as a result, go slow on fiscal deficit reduction target. That is difficult because the government does need to reduce its fiscal deficit as household savings, the main source of borrowings, are under pressure. The higher the fiscal deficit, the more expensive it is for the private sector to borrow, and the private sector is already not borrowing.
The other option, to raise more tax and non-tax revenues, also looks difficult. Last year, the government had called the tax revenue target for FY23 realistic. It was the most modest tax to GDP target in last six years. It is very important to increase revenue because, in the medium term, the only way to increase capex is by making sure we borrow less for revenue expenditure. In no year since 2008 has borrowing for revenue expenditure been less than 65% of total borrowings. So, for every rupee of fiscal deficit, 66 paisa is for revenue expenditure. It can be cut by reducing revenue expenditure, which is difficult because of large interest payments and wages/salaries. Plus, Central government has committed itself to a range of transfers through direct benefit transfer (DBT). The government can raise taxes, which it has failed to do.
On disinvestment, the government has again, in an act of modesty, reduced this year target by half. Missing it again can have serious implications as we will then have a fiscal deficit problem. Such a situation can result in expenditure cuts. Since revenue account cuts are unrealistic, you will end up cutting your DBTs, and if that is difficult, you will have to cut capex or slip on your fiscal deficit target.
The fiscal situation continues to be difficult. It is exacerbated by tepid growth and high inflation environment causing macro fiscal challenges. Unless the government is able to improve its tax revenue performance, and meet its disinvestment targets, there will be a shortfall. And it will make meaningful tweaks to the Budget 2023-24 even more difficult. Let us face it.