INDIAN FISCAL SITUATION: A SUMMARY

In December 1985, the Government of India presented a discussion paper in the Parliament titled ‘Long-Term Fiscal Policy’. It was for the first time in the fiscal history of India that we see a long-term perspective coming on the

fiscal issue from the government. This also included the policy of government expenditure. The paper was bold enough to recognise the deterioration in India’s fiscal position and accepted it among the most important challenges of the eighties—the paper set specific targets and policies to set the things right. This paper was followed by a country-wide debate on the issue and it was in 1987 that the government came ahead with two bold steps in the direction—

(i) a virtual freeze was announced on government expenditure, and

(ii) a ceiling on the budgetary deficit.

The above steps had a positive impact on the situation but it was temporary as since mid-1988 the situation again started deteriorating. The BoP crisis at the end of 1990 was generated partly by the alarmingly high fiscal deficit30 and due to a high level of external borrowings. The IMF support to fight the crisis came in but with many macro-economic conditionalities, checking the fiscal meance being a major one among them. With the process of economic reforms which started in 1991–92, the government also announced its commitment to reduce fiscal deficit to 3–4 per cent (of GDP) by the mid- 1990s (from the level of about 8 per cent during 1987–90). This step was among the many measures which the government started with the objective of stabilising the economy. We may have a look at India’s fiscal situation upto the 1990–91 in the following way:

(i) The fiscal deficits of the central government, after averaging below 4 per cent of the GDP till the 1970s started climbing up by being 5.77 per cent in 1980–81, 8.47 per cent in 1986–87 ending up at 7.85 per cent in 1990–91 after being above 7 per cent in the second half of the 1980s.31

(ii) The revenue (i.e., current) expenditure of the government (Centre and states combined) increased from 11.8 per cent of GDP to 23 per cent between 1960 and 1990. The revenue receipts of the government also went up on an average of 14.6 per cent in 1971–75 to 20 per cent in 1986–1990. But the gap between revenue receipts and expenditures remained negative—financed largely by domestic borrowings (as a result the interest payments on domestic debt increased from 0.5 to 2.5 per cent of the GDP during 1975–90.32 The revenue deficit went on increasing

after 1979–80 and reached the highest level of 3.26 per cent of the GDP in 1990–91.33

(iii) The fiscal situation of the states was not good either. State governments which are primarily responsible for health, education and other social services had an aggregate revenue expenditure of 5 per cent of GDP on these accounts while their capital expenditure accounted for 2.5 per cent on social and other sectors.34 The states’ expenditure on the social sector went down while their interest payments had increased during the 1980s.35‌

As per the experts, the debt situation in the states would have been even worse, but for the fact that the states, unlike the Centre, did not have independent powers to borrow either from the RBI or the market because of the statutory overdraft regulatory scheme.36 Thus, their deficits have been self-limiting—whenever the states tried to cut down their deficits the care of the social sector and capital expenditure suffered and development prospects in the states also suffered.

Now the question arises that why the government has not been able to check the menace of fiscal deficits even though there has been a consensus to do so? There are reasons37 which can be cited for it:

(i) Political factor: The political lobbies and sectional politics as well as the subsidies are supposed to be one big factor for rising government expenditure. We see this on a higher scale if there is a probable mid-term election or closer to a general election.

(ii) Institutional factor: The administrative size combined with the processes of reporting, accounting, supervising and monitoring getting greater importance than the production and delivery of goods and services.38

(iii) Ethical factor: This is a more powerful factor as it easily generates wide public support for the government expenditure. There are many heads of such expenditures such as subsidies (food, power, fertilizer, irrigation, etc.) poverty alleviation programmes, employment generation programmes, education, health and social services. The logic for such

expenditure comes from the idea that the government should function as protector of the poor and provider of jobs for them implying that such government expenditures benefit the poor.

It was in 2000 that the double menace of revenue and fiscal deficits got attention from the government at the Centre and some constitutional/statutory safeguards looked necessary. Consequently, the Fiscal Responsibility and Budget Management Bill, 2000 was proposed in the Parliament.

FRBM Act, 2003

The fiscal policy of an economy has been considered as the building block for enabling macro-environment by economists, policymakers and the IMF, alike. It does not only provide stability and predictability to the policy regime, but also ensures that national resources are allocated in terms of their defined priorities through the tax transfer mechanism.

Unproductive government expenditures, tax distortions and high deficits are considered to have constrained the Indian economy from realising its full growth potential. At the begining of the fiscal reforms in 1991, the fiscal imbalance was identified as the root cause of the twin problems of inflation and the difficult balance of payments (BoPs) position.39 Since then the medium-term fiscal policy stance of the government has been on the following lines:40‌

(i) reducing the deficits (revenue and fiscal);

(ii) prioritising expenditure and ensuring that these resulted in intended outcomes; and

(iii) augumenting resources by widening tax base and improving tax- compliance while maintaining moderate rates.

The fiscal consolidation which followed in 1991 failed to give the desired results as there was no defined mandate for it. Neither was there any statutory obligation to do so.41 This is why the Fiscal Reforms and Budget Management Act (FRBMA) was enacted on 26 August, 2003 to provide the support of a strong institutional/statutory mechanism. Designed for the purpose of medium-term management of the fiscal deficit, the FRBMA came

into effect on 5 July, 2004.

The FRBM Bill, 2000 was passed by the Parliament with all political parties voting in favour, and is considered a watershed in the area of fiscal reforms in the country. Main highlights of the FRBMA, 2003 are as given below:42

(i) GoI to take measures to reduce fiscal and revenue deficit so as to eliminate revenue deficit by 31 March, 2008 (which was revised by the UPA Government to March 31, 2009) and thereafter build up adequate revenue surplus.

(ii) Rules to be made under the Act to specify annual targets for the reduction of fiscal deficit (FD) and revenue deficit (RD) contingent liabilities and total liabilities (RD to be cut by 0.5 per cent per annum and FD by 0.3 per cent per annum).

(iii) FD and RD may exceed the targets only on the grounds such as national security, calamity or on exceptional grounds.

(iv) GoI not to borrow from RBI except by Ways and Means Advances (WMAs).

(v) RBI not to subscribe to the primary issue of the GoI securities from 2006–07 (it means that these government bonds/papers will become market—based instrument to raise long-term funds by the government).

(vi) Steps to be taken to ensure greater transparency in fiscal operations.

(vii) Along with the Budget and Demands for Grants, the GoI to lay the following three statements before the Parliament in each financial year:

(a) Fiscal Policy Strategy Statement (FPSS);

(b) Medium Term Fiscal Policy Statement (MTFPS); and

(c) Macroeconomic Framework Statement (MFS).

(viii) The Finance Minister to make quarterly review of trends in receipts and expenditure in relation to the Budget and place the review before the Parliament.

Recent changes: After the enactment of the FRMBA, the states also followed the suit passing their FRAs (fiscal responsibility acts) in the forthcoming years. Both of the governments have shown better fiscal

disciplines since then43. To the extent ‘exact’ follow-up to the FRBMA- linked targets are concerned, the performance has been mixed. The targets were exceeded many times due to fiscal escalations (either due to natural calamities or on exceptional ground), while many times they were better than the mandated targets, too. But this act brought the element of higher fiscal discipline among the governments, there is no doubt in it44.‌

In the past few years a view has emerged as per which binding the government expenditures to a fixed number may be counterproductive to the economy at large. Due to a hard and fast discipline regarding fiscal targets, some highly desirable expenditures by the government may get blocked, for example—expenditures on infrastructure, welfare, etc. This is why we find a changed stance of the Government of India in the Union Budget 2016–17 regarding the follow-up to the FRBMA. Terming it a new school of thought the Budget suggests two important changes in its fiscal road map:

(i) It may be better to have a fiscal deficit range as the target in place of a fixed number as target. This would give necessary policy space to the government to deal with dynamic situations.

(ii) A need is felt to align fiscal expansion or contraction with credit contraction or expansion respectively, in the economy.

In the opinion of the Budget, the government should remain committed to fiscal prudence and consolidation but a time has come when the working of the FRBMA needs a review—especially in the context of the uncertainty and volatility which have become the new norms of global economy45. In the backdrop of this changed stance, the the Government, in 2016 constituted a Committee to review the implementation of the FRBMA.