Open Essay

Commanding Heights Again

Maitreesh Ghatak is a professor of economics at the London School of Economics and Political Science
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The Budget gets its priorities right

IF POLITICS IS the art of the possible, then a budget is the art of the feasible. It is where the soaring rhetoric of possibility meets the unpleasant arithmetic of feasibility, and dreams of grandeur melt away in the cold light of day. A budget maybe dull and prosaic (or, more accurately, numeric), but like weather reports, those dry numbers have a direct bearing on our daily lives.

First, it is in some ways the most honest reflection of the Government’s immediate priorities, given the limited fiscal resources and realities of the economic challenges and political compulsions; this, no poll or policy campaign can possibly do. In a budget, you literally have to put money behind your words, whether it is funny money or real money. Second, it also offers a glimpse of the Government’s vision—both its long-term goals and the reforms needed to achieve them, given its assessment of how the economy and policymaking process work.

Whatever one’s political view, no one can envy the task that Arun Jaitley had at hand on February 1st while presenting the last full Union Budget of the Narendra Modi Government that was elected in 2014.

Despite cries of ‘populism’, I think it deserves some praise in terms of signalling its priorities, given the constraints. This is reflected in the enhanced expenditure on the rural sector, highways and railways, and the healthcare plan as well as the willingness to reintroduce a tax on long-term capital gains and not cut personal and corporate taxes (except for small enterprises). However, like the previous budgets and other flagship policies of this government, such as demonetisation and the GST rollout, it continues to disappoint in terms of its vision of reforms. And that in the end severely limits its effectiveness in achieving its objectives, whether to boost the economic growth rate or to provide more relief to the poor.

Clearly, a budget cannot please everyone, as, by definition, there are scarce resources and competing ends, and some of the reactions after the Budget was presented have been predictable. Those who focus on the immediate concerns of the poor (and I consider myself staunchly in this group) would have wanted a larger effective allocation for the social and rural sector and the National Rural Employment Guarantee scheme (for which the budget seems frozen). Most importantly, the Budget disappoints on the most urgent economic problem of generating jobs. According to latest ILO estimates, the official number of India’s unemployed is 18 million, but given that the organised sector employs just about 10 per cent of the total employed, the majority of our more than 600 million workforce are in low-paying informal sector jobs. Despite the significant rise in expenditure on jobs and skill development, the allocation is woefully inadequate given the size of the problem; the allocated amount of Rs 5,000 crore works out to roughly Rs 80 per person in the workforce. Similar arithmetic would apply to the health insurance scheme as well.

Those whose priorities are growth and reforms would have wanted greater focus on simplifying taxes, offering more tax relief to boost private investment, and greater investment in infrastructure. The corporate sector may not say this publicly, but the BSE Sensex did have a downward swing (reinforced by global headwinds in the days following the Budget).

Modi was elected with a mandate of ushering in a new era of economic prosperity. It was unrealistic to expect him to unveil a new version of the welfare state after the original Nehruvian model or the subsequent UPA one. The question is: what led to the NDA’s change in focus?

Defence hawks will rightly note that for all the tough talk, the increase in defence expenditure in real terms has been small. Fiscal hawks will be right to note that there has been a slippage in the deficit reduction plan, with the deficit-to-GDP ratio crawling well above the red line of 3 per cent. Yes, more people are now under the tax net, but this has not really shown up in tax revenue yields. With rising oil prices and no major initiatives in cutting wasteful and regressive subsidies on fuel and fertilisers, or disinvestment, the Budget cannot be given high marks on soundness of macroeconomic and fiscal management.

Even though a budget cannot please everyone, like with any other decision, to be effective it should have one dominant and coherent objective, allowing for some adjustments and compromises on others. One has to play to one’s core strengths and convictions. Modi was elected with a mandate of ushering in a new era of economic prosperity. His 2014 slogan of ‘Sabka Saath, Sabka Vikaas’ clearly captured the aspirations of a growing country where more than half the population is under 28. Frustrated with the economic slowdown under the UPA and the perceived absence of strong leadership, voters found a hero in Modi and a shining city upon a hill in the concept of the ‘Gujarat Model’. Therefore, it was reasonable to expect a strong focus on growth and reforms, with a consequent effect on job creation. It was unrealistic to expect Modi to unveil a new version of the welfare state after the original Nehruvian model or the subsequent UPA one.

The question is: what led to the NDA's change in focus? Was it economic factors or political compulsions, given the upcoming General Election next year and the setbacks in the recent assembly elections in Gujarat and by-elections in Rajasthan, another BJP stronghold?

THE PHRASE ‘achche din’ is not heard much these days, nor is the Gujarat Model and Modinomics. And there is certainly very little talk about double-digit growth or beating China economically. India’s Chief Economic Advisor Arvind Subramanian put it pithily when answering why the exuberance of the first Economic Survey under his tenure for 2014-15 has been replaced by the grim realism of the current one: “Stuff happens.”

What exactly did happen?

The economy’s rate of growth has slowed down, with the current estimate for 2017 being 6.7 per cent, while the average rate from 2009 to 2014 was 7.45 per cent. If we look at IMF’s yearly growth rate projections, then in 2011 and 2012, growth rates of 8.1 were being projected for 2016 and 2017. The actual rates turned out to be 6.6 and 6.7. The IMF has revised the growth projection for 2018 downward from 7.7 to 7.4 per cent, from the 2017 report to the 2018 one.

The decrease in the economy’s growth rate hides the extent of the fall in the poor’s standard of living. This is the reality the Government is facing. To dismiss it as ‘populism’ or to ask the majority of the population to wait patiently for good days to come in the long run is neither politically feasible nor justifiable

What explains the diminished expectations? Bad luck alone cannot be blamed—the world growth rate has marginally improved between 2014 and 2017 compared to the last years of UPA-II (2011-2014); oil prices have fallen, which has given the Government a bonanza of tax revenue; and there has not been any major weather shocks or natural disasters.

From the growth and reform perspective, despite favourable global tailwinds, demonetisation and the chaotic rollout of GST knocked a whole percentage point off the growth rate, according to the Economic Survey. And that is likely to be an underestimate, given the impact on the informal sector that will not be adequately captured by the official numbers.

But the fall in growth rates tell only a partial story. It certainly doesn’t adequately reflect the economic hardship faced by the average person. According to a recent Oxfam report, the richest 1 per cent of the Indian population captured 73 per cent of the total gain in national wealth last year, while the poorest half saw their wealth rise by just 1 per cent. This suggests that unless you own a sufficient amount of wealth (analogous to owning a greater equity stake in the national economy), increases in the economy’s growth rate—either overall or in per capita terms—will not improve the quality of your life. Growth does not trickle down sufficiently in a highly unequal economy.

Now, increases in national income come from gains in wages and salaries and returns on wealth (whether financial or non-financial assets). For the benefits of GDP growth to be spread more evenly, growth in labour income would have to high. This is difficult in a labour-surplus economy like India. While it is hard to estimate the extent of growth of labour income, reports suggest that the rate of wage growth even in the corporate sector has been less than GDP growth in real terms. We can only guess what is happening with wages and salaries in the informal sector and agriculture.

This suggests that the decrease in the economy’s growth rate—which the Economic Survey starts off by noting— while obviously slowing down the growth of income of the non-poor, hides the extent of stagnation or fall in the standard of living of the poor. This is the economic reality that the Modi Government is facing. To dismiss it as ‘populism’ or to ask the overwhelming majority of the population to wait patiently for good days to come in the long run is neither politically feasible nor justifiable on any metric of fairness.

In a democracy, one person has one vote, while in the economic domain, a person’s influence is proportional to his or her wealth. It is the purchasing power of those with money that determines what will be produced and it is the lobbying power of groups that have money that at least partly determines what policies are adopted.

Yes, populism can be harmful. For example, before elections, governments have an incentive to pump up spending and lending, but this backfires in the form of inflation. But ‘elite capture’ is a problem as well. Because of the way elections are funded, those with wealth have a disproportionate influence on policy. After all, what is the explanation for taxing salaries or interest earned on savings accounts or fixed deposits, but not touching capital gains? What is the explanation of small business facing a much higher effective tax rate because of various deductions available to larger capital-intensive firms? What is the argument for not taxing wealth directly?

Any criticism of the priorities revealed by the Government as ‘populist’ misses this basic point. Political compulsions are very much part of policymaking in a democracy. The real question is: are the policies adopted to achieve the apparent priorities going to be effective?

AS A FAMOUS politician once said, one campaigns in poetry but governs in prose. The burden of sky-high expectations and a big parliamentary majority was always going to be a challenge for the Modi Government. Also, as economic reforms always create gainers and losers, there were bound to be disappointments. But the prose and the numbers that are becoming evident are more disappointing than one would have expected from the point of view of a vision of reforms.

Where tough decisions could be effective in getting rid of some of the baggage of the Licence-Control Raj, the Government has shown little political will beyond the symbolic renaming of the Planning Commission as Niti Aayog

First, there are the sins of omission. The biggest disappointment from the reforms perspective has been the Centre’s inability to carry out any major wasteful expenditure cut (such as regressive subsidies or administrative flab) or make any serious attempt at factor- market reforms, such as land acquisition or labour regulation. Or consider the problem of disinvestment. Despite a proposal cleared by the Union Cabinet last June, Air India’s stake sale is unlikely to take off anytime soon; there are reports that say, ‘…the government doesn’t want anyone who is working for Air India to lose their jobs’. This is not what one would expect from a leader whose image is that of a bold decision-maker, unafraid to take tough decisions, in the Thatcher or Lee Kuan Yew or Deng Xiaoping mould.

Then there are the sins of commission. The uncertainty and chaos created by the policy-induced shocks of demonetisation and GST-implementation have led to a general sense of anxiety about a key element of the vision of reforms, the targeting of ‘black money’, and this must have contributed to the steady decline in India’s investment rate from 39 per cent in 2011-12 to 33 per cent in 2015-16. Yes, fighting corruption is a laudable goal, but that cannot be the core economic vision for reforms in a country like India.

A thread connects this to the command-and-control style implementation of the Aadhaar scheme. The prevention of corruption and waste in our welfare schemes is a good objective, but that cannot be at the expense of denying rations and pensions to the most vulnerable groups because of technical glitches in UID implementation, which has resulted in incredible hardship to those already leading a precarious existence on the margins of subsistence. Given the limited bureaucratic resources, it seems a misguided approach to try bringing everyone under it in one go, including those who are not drawing any government benefit. The same command-and-control mindset is evident in the rise in the number of bank accounts under the Jan Dhan Yojana, many of them having a one- rupee balance to avoid being technically classified as a ‘zero balance’ account.

The proposed health insurance scheme has not learnt from the failures of the Rashtriya Swasthya Bima Yojna (RSBY), and without creating a proper framework of monitoring and accountability, is likely to end up creating a hole in the Budget, a bonanza for private insurance companies and medical institutions, and little benefits for the target population.

The Planning Commission may be dead, but a central-planning mindset—dictating allocations from the commanding heights of the economy, using the coercive powers of the state machinery—is very much alive. Yet, where tough decisions could be effective in getting rid of some of the baggage of the Licence-Control Raj, the Government has shown very little political will beyond the symbolic renaming of the Commission as Niti Aayog. This is the biggest disappointment with the Modi Government.