My Take for Budget 2021-22

 

Budget 2021-22

My take on the State of Economy, Finance and Fisc and Policy Measures and Reforms to rehabilitate Indian Economy Post- Covid-19 and put the Economy on the Path to High Growth and Effective Redistribution on the occasion of Budget 2020-21

 

SUBHASH CHANDRA GARG

Economy, Finance and Fiscal Policy Strategist and Former Finance Secretary, Government of India

 

I: REVIEW OF MAJOR ECONOMIC, FINANCIAL

AND FISCAL DEVELOPMENTS

 

Unprecedented Contraction in 2020-21

1.   NSO estimates India’s GDP to contract by 7.7% in the FY2020-21. This is likely to turn out to be an underestimate when better numbers are available. The economy is likely to contract by 8-10% this year as NSO’s estimates are optimistic on at least three counts- first, H2 capital formation growth would be much lower than estimated -.5% only; second, government expenditure growth by 19% in H2 is unlikely to materialise and third, electricity sector expansion by 2.3% for the year despite fall of -5.4% in first eight months is over-optimistic.
2. The Performance of Indian economy has been unprecedented in FY2020-21 with every sphere- economic, financial, and fiscal- going through big turmoil and convulsion. This 2020-21 contraction is a never before kind of an event. Last time India went through a contraction was 40 years back in 1979-80. India’s growth contraction would be much higher than global GDP contraction of 4.4%, estimated by IMF.
3. At constant 2011-12 prices, India’s GDP for 2020-21 estimated by NSO, at Rs. 134.40 lakh crore is smaller than the GDP recorded at Rs. 145.69 lakh crore in 2019-20 and GDP of Rs. 140.03 lakh crore in 2018-19. Two years of India’s economic growth have got wiped out by Covid-19 and the fateful 50 days total lockdown imposed by the Government. Even in nominal terms, India’s GDP of Rs. 194.82 lakh crore is smaller than the GDP of Rs. 203.40 lakh crore of 2019-20.
4. Unlocking since June has brought much of the economy back to its groove. GDP growth will bounce back in 2021-22, recording about 30% growth in Q1-22. Unless something extra-ordinarily bad happens on the virus front or in economic policy making, India’s GDP should grow in FY2021-22 by about 10% in real term and by 15% in nominal terms bringing GDP of FY22 close to FY20 levels.

Bank Credit Remained Moribund; Equities Rose All Time 
    5. Inability and disinclination of high-income population to spend on             discretionary consumption led to aggregate deposits of banks expand by Rs. 10.47 lakh crore in nine and a half months of FY2020-21 as against Rs. 5.53 lakh crore in FY2019-20- more than 90% higher. Credit growth at Rs. 6.36 lakh crore, on year-on-year basis, has been lower than 6.71 lakh crore in the previous year. This was despite liberal default guarantees offered by the Government on 20% additional loans to MSMEs and later to all stressed sectors. RBI expanded liquidity liberally but the banking system, especially the PSU banks, remained credit averse. Unfortunately, neither the fiscal stimulus nor the liquidity stimulus worked to expand investments.

6. The RBI granted moratorium on servicing of loans and suspended recognition of non-performing loans for six months and offered a restructuring scheme for “stressed sectors”, to keep the stressed accounts standard for two years. RBI recognised in the Financial Stability Report severe stresses building up in the banks’ loan portfolios. The Government suspended the IBC for full one year. Moratorium, non-recognition of non-performing loans and suspension of access to IBC made the credit scene quite muddled. Going by the data on moratorium availed, stress in more than half of the sectors and real big hit taken by MSMEs, non-performing loans are likely to go up by another Rs. 8-10 lakh crore once the regulatory forbearance veil lifts.

7. Equity markets, after the initial shock in March-June 2020, were rocking until middle of January 2021 largely driven by FPI inflows and cheaper money available. The Sensex retraced all the losses suffered in the wake of Covid-19 and Lockdown- overtaking previous highest level of 41,945- recorded on 17 Jan 2020- on 9 November 2020. Sensex scaled 50000 on 21^st January 2021 burying the ghost of the lowest closing level of 25981 recorded on 23 March 2020.

 8.   This big divergence in the behaviour of credit and equity appears baffling in the first instance. However, a closure look makes it is quite apparent that despite Covid-19 and lockdown, the advantage of high capital and high technology proved disproportionately advantageous to the large firms listed on NIFTY and Sensex and disproportionately disadvantageous to MSMEs and unorganised businesses which depend mostly on informal credit.

 

Fiscal Math Went for a Toss    

9.   Government of India total expenditure (Rs. 22.8 lakh crore) in nine months was 74.9% of BE-21 (Rs. 30.4 lakh crore), marginally less than expenditure of 75.7% last year. Both revenue expenditure and capital expenditure are also quite close to the expenditure levels of last year. There is, however, a distortion in capital expenditure. Government has disbursed Rs. .84 lakh crore as loans against disbursement of only Rs. .21 lakh crore last year. These loans largely given to States are exceptional and not centre’s real capital expenditure. Excluding these loans, centre’s capital expenditure is only Rs. 2.25 lakh crore (54.5%), lower than Rs. 2.34 lakh crore last year.

 

10.  The Government of India is always fiscally stretched. There is also attendant risk of inflation rising if deficits expand. Faced with this sobering reality, the Government decided to impose severe cut on most budgeted expenditures by the order issued on April 8. Government’s total expenditure at the end of September 2020 at Rs. 14.79 lakh crore was lower than the expenditure in H1-20 at Rs. 14.89 lakh crore.

 

11.  The Government signalled in October its intention to loosen up the purse strings; impact of which was visible from November onwards. Total expenditure in November and December- Rs. 6.18 lakh crore- exceeded total expenditure of Rs. 4.55 lakh crore in last year. Assuming the Government maintains this pace of expenditure expansion for the remaining months and shifts some off-budget food subsidy to the budget, the total expenditure in 2020-21 is likely to exceed the BE 2020-21 by about Rs. 2.0 lakh crore, which will raise the fiscal deficit by 1% of GDP.

 

12.  The revenue performance this year was quite poor until September. While tax revenues improved impressively in the third quarter, the performance of non-tax and disinvestment receipts continued to be pathetic.

 

13.  Net Tax revenues had suffered a big jolt in Q121, falling short by Rs. 1.16 lakh crore (46% less than last year). Tax revenue shortfall in Q2, at Rs. .32 lakh crore was much less bringing down H12020-21 shortfall to less than 25%. In Q3-21, the net tax revenue realisation has been much higher - Rs. 5.03 lakh crore against Rs. 2.97 lakh crore last fiscal. At end-December 2020, GOI’s net tax receipts were at Rs. 9.62 lakh crore recording an increase of Rs. .57 lakh crore over last year (6.35%).

 

14.  The Government had received Rs. 4.51 lakh crore net tax revenues in the last quarter of FY2019-20. Considering all relevant factors, it might be reasonable to expect a growth of 25% over this during Q4-21, which will make net tax revenues rise to Rs. 5.64 lakh crore. Government’s net tax revenues for FY2020-21 are likely to be somewhere close to Rs. 15.26 lakh crore, leaving a shortfall of about Rs. 1 lakh crore in the BE of Rs. 16.36 lakh crore.

 

15.  The non-tax receipts (BE Rs. 3.85 lakh crore) and the disinvestment receipts (BE Rs. 2.10 lakh crore) together were expected to contribute Rs. 5.95 lakh crore in FY21. However, actual non-tax and disinvestment receipts in first nine months were only Rs. 1.26 lakh crore and Rs. .19 lakh crore, totalling to Rs. 1.45 lakh crore (24.4% of BE). With RBI dividend already received and the disinvestment programme unlikely to see through the privatisation of BPCL, IDBI or CONCOR or disinvestment of 10% stake in LIC, actual non-tax and disinvestment revenues are unlikely to exceed Rs. 3.00 lakh crore, resulting in shortfall of about Rs. 3 lakh crores.

 

16.  Taking the non-tax, disinvestment and net-tax revenues shortfall together, the Government is staring at additional fiscal deficit of Rs. 4 lakh crores on revenue account.

 

17.  Budgeted fiscal deficit of Rs. 7.96 lakh crore works out to 4% of the estimated GDP of Rs. 195 lakh crores for FY21. There is additional fiscal deficit implication of 1% on expenditure account and 2% on revenue account. The Government of India is likely to have revised fiscal deficit of 7% of GDP for FY-21.

 

Labour Suffered Most

 

18.  Three key data- labour participation rate (LPR), employment rate (ER) and unemployment rate (UR)- capture the state of employment quite well. Government and the NSO, unfortunately, have not brought out these labour statistics for the post-Covid and lockdown period. Additionally, the share of labour in the value added/ GDP tells the state of labour financial welfare.

 

19.  The LPR, which measures the working-age population looking for work, has been going down in the country for quite some time. As per CMIE data, LPR was 46.1% in 2016-17, which fell by 2.56% to 43.54% in 2017-18 and further to 42.77% in 2018-19. In 2019-20, the LPR was 42.63% placing the number of those interested to work between 43.1 to 44.2 crore during the year.

 

20.  Lockdown in March 2020 hurt the labour most. Labour willing to work fell to less than 37 crores in April, as many people walked out of the labour force to head back to their villages and safety. LPR never recovered fully during entire 2020 and was less than 40% in November 2020.

 

21.  The suffering of labour is much better captured by the employment rate- which measures the proportion of working age people actually being employed- than unemployment rate.  The number of people actually employed in India on average were about 41 crores in January 2020. This number fell to 28 crores in April 2020. About 13 crore workers lost their jobs. After the unlockdown, there was recovery- over 39 crores in July and about 40 crores in October. The employment, however, fell below 39 crores in December again. Currently, there are about 2 crores less workers employed in the country than last year. Unemployment rate- which measures the proportion of workers willing to work but getting jobs- shot up from the level of 7.5% in January-February 2020 to 23.5% in April and 21.7% in May-2020. Unemployment rate declined thereafter gradually to bottom out at 6.5% in November. It started rising again crossing 9% in December 2020. In January, there are signs of unemployment rate falling again though there is no perceptible improvement in LPR or employment rate.

 

22.  Besides fall in the number of working age people looking for work and the number of employed labour, India’s employed labour force suffered from the loss of wages as well. International Labour Organisation (ILO) estimated that informal workers in India suffered a 22.6% fall in wages, while the loss suffered by formal sector employees was lower at 3.6% post lockdown.

 

23.  GDP roughly equals national income and is shared between the workers, capital-entrepreneurs and government as wages, profits and taxes. The change in their respective share in GDP indicates winners and losers. Q2 2020-21 results of a large sample of listed corporates showed that the share of profits went up by 25% on the back of cut in wages. There is good evidence to show that rural wages rate also fell, after initially rising in April-May. As retail inflation remained high, the misery of labour got compounded with triple-blows of unemployment, reduction in wages share and rising inflation.

 

24.  Government did provide life-saving support by handing-out free cereals and pulses to every poor and distressed family in India but that helped only to keep the body and soul together. Workers of India suffered the most in FY2020-21.

 

II: PUTTING THE ECONOMY BACK ON TRACK

 

Resetting $5/$10 Trillion Economy Goal

25.  India declared her ambition to become the third largest and an upper middle-income economy by 2030s when the Interim Budget 2019-20 announced the goal of making India a $10 trillion economy outlining a ten-dimensional growth and developmental strategy. The intermediate goal of $5 trillion economy by 2024-25 was announced by the Prime Minister in July 2019. Unfortunately, the events of last two years have faltered our progress towards this goal. Depreciation of rupee in FY 2019-20 and Covid-19 induced lockdown in 2020-21 have meant that India’s GDP in dollar terms remains exactly where it was two years back- around $2.70 trillion.

 

26.  We have to refocus India on economic growth agenda in FY 2021-22 and to undertake serious economic policy reforms- Reforms 3.0- to re-embark firmly on the path of building $5 trillion economy by 2026-27 and $10 trillion economy by 2035.

 

Increasing Investment and Initiating Fundamental Reforms

 

27.  Economic growth is all about producing, consuming and exporting goods and services of value higher than the earlier period. Increasing production requires higher capital formation/investment in buildings, plant and machinery, intellectual property in creating new products, technologies and processes and new biological resources. India’s investment rate, which had gone up to 38% in the first decade, had drifted below 30% last year and is likely to be less than 25% in FY2020-21. India has to raise its investment rate to 35-40% if GDP growth of 8% is to be achieved.

 

28.  The economic system, in which production, consumption and exports take place, with the interplay of capital, labour and innovation, under the umbrella of policy set by the government, requires changes to attract new investment and to be more productive in use of existing invested resources. This calls for constant review of the existing economic system to determine in what reforms are needed to achieve these objectives. Unless the economic system changes to become fit for the purpose for the changed underlying situation, the requirements of new technology, demand and integration of markets, the growth impulses do not accelerate. Reforms are painful as these upset the existing vested interests. However, not undertaking reforms leads to stagnation and perpetuation of inefficient and unproductive economic system which hurts all.  

 

Agriculture Reforms

 

29.  India attained independence in 1947 as a severely food deficit country. The food situation had worsened so much by middle of 1960s that India used to live on wheat imports from US and sleep on half-filled stomach. India was very poor, and majority of population suffered from severe mal-nutrition. Agriculture was traditional, land distribution highly unequal and oppressive and irrigation facilities poorly developed. There was almost no use of modern agriculture technology of high yielding variety (HYV) seeds, fertilisers, and water management. Land reforms- abolition of zamindari, conferring of land ownership on tillers of land and distribution of surplus land amongst the landless and small farmers- and agriculture reforms- adoption and popularisation of HYV seeds, fertilisers, and new agronomic practices- undertaken from the middle of 1960s bore fruit and India became not only food sufficient but emerged as a consistent net exporter of agriculture produce by the turn of century. Marketing reforms- setting-up of regulated market yards (APMCs), minimum support prices (MSPs) and formation of Food Corporation of India (FCI)- were also initiated and institutionalised. These land, agriculture and marketing reforms undertaken during sixties to eighties changed the agriculture and food situation so well that, in 1991 when the country went through a very bad economic crisis, India did not have to worry about food and agriculture sector at all.

 

30.  In economic management, no reform works permanently. The reforms of 1960s-1980s led to heavy subsidisation of agricultural inputs- seeds, water, power, loans, fertiliser, even insecticides and weedicides-, which led to burdening of government budgets, gross inefficiency in use of inputs and harmful effects on health, environment, and productivity of soil. The system of MSP expanded to cover almost all crops and degenerated into maximum price support (MPS). Incapacity of the Governments to walk the talk meant that only about 6% of agriculture produce subject to MSP system, could actually be procured by government agencies in a hugely distortive geographical manner. The MSPs determined on the basis of weighted cost of cultivation across the country meant farmers of some states got much more than 50% margin over cost promised by the government and farmers of most states did not get even the cost of cultivation. FCI procurement and distribution system imposed huge ancillary cost, waste of food and depression of market prices. These policies and programmes slowed the transition of farmers into industrial economy and kept them poor and mal-nourished.

 

31.  India did not undertake any agricultural reform in last 20 years. An attempt to end the monopoly of APMCs and mainstreaming of contract farming was made by the Government in 2020. However, the manner in which these reforms were undertaken, enabled some States and entrenched interests in the APMCs mobilise the sections of farmers who were benefitting disproportionately from the MSP system. Forced by the seize of Delhi by farmers, the Government has offered to suspend the farm laws for one and a half year. There is a real risk that these reforms will get derailed like the reforms in the land laws undertaken in 2014-15.

 

32.  Agriculture needs comprehensive reforms for raising farmers’ incomes, reversing market distortions, relieving governments of excessive subsidy bills on inputs, reducing waste in the system and accelerating transition of surplus agriculture labour force (both farmers and landless labour). Agriculture and allied sectors contribute about 15% of GDP but employ about 45% of workers and has large fiscal cost exceeding Rs. 6 lakh crore a year. The real agriculture reform agenda is to liberalise the agriculture and protect the farmers’ income. This would require following reforms:

 

a.    Provide a composite income support to all farmers on the basis of per acre of land in lieu of all input subsidies and minimum price support, provided by the central and state governments. To make a fair deal to farmers, the governments should top up the existing level of all subsidies by 10%. The cost of income support should be borne by the centre and the states in the ratio of their present expenditure on farm subsidies on state-to-state basis making no gainer or loser amongst the states.

b.   The MSP programme is very unfair to small and marginal farmers and should be completely discontinued. The Government should procure whatever agriculture produce are required for buffer stock and food security purposes by buying it from the market.

c.    Severe restrictions placed on farmers in the country- on sale of land and conversion of land for non-agriculture purposes, on leasing of land, on sale in markets other than APMCs, on supply of fertilisers on regional basis etc.- should be dismantled.

d.   The Essential Commodities Act served the needs of consumers in the supply-shortages era. It never served the interests of armers and is no longer relevant. It should be simply abolished.

 

33.  The agriculture is a state subject. To build consensus, determine the reform sequencing and timetable and to agree on sharing of the fiscal cost of the reforms, it is advisable to create an Agriculture Council on the lines of GST Council.             

 

Mining, Manufacturing and Utilities Reforms

 

34.  Manufacturing, mining, and utilities contribute about 21% of total GVA; bulk of which comes from manufacturing (Rs. 27.67 lakh crore out of GVA of Rs. 36.13 lakh crore of this group in FY2018-19).

 

35.  Two-third of mining and quarrying GVA of Rs. 3.89 lakh crore in FY2018-19 came from petroleum products and coal. The GVA of domestic production of petroleum products is declining continuously and contributing lesser share in meeting consumption demand making import bill rise massively. Coal production has peaked as a share of GDP. With renewables becoming much cheaper than coal produced electricity, growth of coal consumption is expected to decline and then get into negative zone. India, richly endowed with coal resources, has a truly short window. The auction of coal mines on freely usable basis is a right step in this direction and should help. The process of converting allocation of coal mines into working mines takes roughly six years in India. This time has to be crashed to less than one year.

 

36.  In utilities (Rs. 4.56 lakh crore GVA), the principal contribution is from electricity sector, which is in the midst of massive problems. Three issues are topmost- first, bankruptcy of state DISCOMs (current unpaid bills to third parties are over Rs. 1.5 lakh crore) despite wrecking of state government finances and now eating into the vitals of two Government of India power sector NBFCs- PFC Ltd and REC Ltd.; second, mis-conceived cross subsidisation of agriculture and residential electricity consumers by industry and commercial segment, penalising the productive sectors and making Indian manufacturing non-competitive; and third, dominance and proliferance of central and state coal based power plants, most using outdated technology and creating massive environmental and management problems. These three critical issues need serious and business-like reforms.

 

37.  Making India a manufacturing nation, an industrial nation has been the priority of all governments since independence. Industrial Policy Resolutions 1948 and 1956 were the major policy interventions intended to industrialise India rapidly. Unfortunately, India opted for completely wrong policies- reserving most of the technological and capital-intensive industries for public sector, controlling, to the extent of really muzzling private enterprise, import substitution secured through high tariff walls and curtains on import of technology and foreign investment. These policies did lead to laying the foundation of heavy industrialisation in India but a weak one with manufacturing growth turning out to be sub-par. Many other nations of Asia, especially in East Asia raced ahead.

 

38.  India decided to correct the course in 1991 by adopting an industrial policy which allowed private sector to enter in any space of industrial activity, rolled back licence and permit raj, subjected Indian industry to foreign competition, allowed freer import of technology and foreign capital. However, public sector enterprises continued to trudge along, which created considerable operating challenges in terms of unequal playing field, fiscal subsidisation of public sector and regulatory capture. The manufacturing growth has been much better after 1991 than it was before 1991 but the reforms of 1991 have run their course by now.

 

39.  The Make-In-India initiative launched in 2014 has the right aim and goals. Various programmes launched under Make-In-India initiative, including Phased Manufacturing Programme (PMP) and Production Linked Incentive (PLI) scheme for select sectors, are designed to bring major global manufactures to India and also develop domestic manufacturing capacity. Unfortunately, some other policy initiatives- raising tariffs indiscriminately, relapsing into self-reliance strategy, extending export incentives to almost every export and expanding PLI scheme to many sectors- will bring some headline investments but hurt the cause of manufacturing in India.

 

40.  Selling power to industry at the average cost of generation plus a margin for profit, reducing the effective cost of interest by privatising public sector banks, reducing effective cost of land by freeing up land markets/ conversions, permitting tariff free import of technology and reducing effective income tax rates for industry, rolling back of import tariff hikes, rolling back of restrictions imposed in the name of aatmnirbhar bharat programme are the policy initiatives which can really help promote manufacturing in India.

Construction and Real Estate Holds Big Promise for India’s Rapid Growth

41.  Construction sector contributed GVA of Rs. 13.44 lakh crore in FY2018-19 and the Real estate and Ownership of dwellings component Rs. 12.22 lakh crore. Together, the real estate sector contributed GVA of Rs. 25.66 lakh crore which was 15% of total GVA of FY2018-19. Real estate sector’s contribution in India’s GDP is as large as that of agriculture or manufacturing sectors. Real estate development is extremely important for India to live better, considering the appalling state of housing, and for India to work better. Large investment is required in constructing requisite quantum and quality of offices, warehouses, residences and other physical and digital infrastructure.

 

42.  India’s residential sector needs a complete make-over after collapse of speculation and black money driven development until 2015 which made housing in India unaffordable for living and unviable for rental housing. With demonetisation dealing the final crippling blow in 2016, the residential real estate sector is in a long state of degrowth leaving lots of real estate developers bruised badly and numerous houseowners ruined financially. At the same time, there are lakhs of incomplete, semi-complete and decaying housing projects with people waiting for delivery of those houses/flats for years. The initiatives like Rs. 25000 crore Alternative Investment Fund (AIF) set up by the Government to kickstart debt financing of incomplete projects have not made any difference.

 

43.  The Government should reclassify all residential housing as an infrastructure and do away with the separate head of assessing house property income. The residential housing construction (except for own housing) should be treated purely as a business with all legitimate expenditure on construction, maintenance, operation, along with depreciation, permitted as business deductions. To make the playing field level for rental housing, all income tax deductions, exemptions, and incentives available for own residential housing should be done away with. These measures will shift excessive preference for own house to rental housing and impart requisite dynamism and productivity in housing of people. This will also bring down the cost of residential housing substantially, which will make even the individual house ownership much cheaper than today.

 

44.  Commercial real estate has been doing quite well except for the setback received on account of Covid-19. Covid-19, however, is likely to serve the cause of commercial real estate well in the long run. Risk of covid-19 and other likely viruses emerging in future would require workplaces to be designed more spaciously, constructing sharable workplaces in and near residential complexes where workers can work digitally and creation of workspaces inside the residential houses for working from home. The governments should facilitate creation of sharable workplaces in residential areas by amending the land conversion rules, permitting faster and cheaper conversion of land for non-agricultural purposes and creating fiscal incentives for shared workplace infrastructure.

 

Services Require Big Policy Push for India to Generate High Growth

 

45.  Services are India’s trump card for growth. Services contribute more than 55% of India’s GDP. Services have also been generating trade account surpluses for many years. Numerous services, not being a harmonious group, however, require different policy interventions to become real engines of growth.

 

46.  Trade and repair services, with GVA of Rs. 19 lakh crore (11.2% of total) in FY2018-19, are the largest group of services. With organised trade entering in all segments of trade, e-commerce providing more competitive edge to digital platforms and numerous maintenance and repair services getting commercialised, the trade and distribution of goods and services is undergoing significant churn. Traditional retail is suffering the side-effects of creative destruction, which will make either the traditional retail reinvent itself using digital technology, become part of the organised retail/e-commerce or to expand its basket of services for survival and growth or simply wither away.

 

47.  The Government should promote digitalisation of trade and distribution services. This requires artificial distinctions between marketplace and inventory models of e-commerce, stipulations of value additions, restrictions on foreign investment in multi-brand retail, subjecting e-commerce to undue data restrictions etc. to be removed.

 

48.  Financial services, with GVA of Rs. 9.52 lakh crore in 2018-19, with the deposit taking institutions, mostly banks, contributing more than 50% of the GVA of this group, other financial services- non-banks, insurance, pensions etc.- contributing about 1/3^rd and financial intermediaries contributing the rest. While financial services, especially the private sector banks, non-banks and insurance companies, have been attracting decent amount of foreign investments, pending reforms in this group- privatisation of public sector banks, raising FDI in insurance and pension companies to 74%, if not 100%, from current 49%, developing debentures/bonds as the primary funding resource for NBFCs, merger of four public sector general insurance companies in one and its strategic divestment and listing of LIC- needs to be urgently taken up.

 

49.  The information and computer related services contributed GVA of Rs. 7.52 lakh crore in FY2018-19 (4.4%). These businesses, developed entirely in the private sector in last 25 years, have served India very well. This industry has generated large number of jobs, has contributed more than 40% to India’s services exports and helped in digitalisation of businesses. The information technology services industry is, however, maturing fast and new low-cost destinations are developing globally. India needs to capture the next big opportunity in information technology sweepstakes- cloud computing, data storage, software as service, establishing IT platforms and artificial intelligence-based services. The Government has to create right conditions for it to happen- a data protection policy which allows data to be used for developing businesses and protects only the real private information, no taxation of start-ups’ capital and income tax exemption for export of these new-age IT services.

 

50.  Education services (GVA Rs. 7.40 lakh crore in FY2018-19) makes significant contribution (4.3%) to the GDP of India. Still a lot of policy conundrum and institutional lack of dynamism are holding back India’s fuller realisation of the potential of education services. Lakhs of students go every year to foreign universities spending billions of dollars to be taught by Indian teachers in foreign universities. Important education policy reforms to unleash creative energies of Indians include abolition of the rule that education has to be a ‘not-for-profit’ activity, conversion of AICTE into a registering and rating body in place of licencing body for technical institutions liberalising establishment of technical institutions by education entrepreneurs/ technocrats freely, permitting 100% FDI in educational institutions under automatic route, conversion of UGC into an education institution and research grant making body from a standard-setting and regulating body and permitting schools and colleges to freely use a mix of physical and digital technologies to impart education and skills with use of third party laboratories, sports facilities and other educational infrastructure in shared use mode.  

 

51.  Road transport contributed GVA of Rs. 5.3 lakh crore (3% plus) in 2018-19. Large incidence of taxes on diesel and toll taxes impact profitability of the freight road transport. This needs rationalisation. Infrastructure for electronic goods vehicles need to be developed. In the sphere of passenger transport by road, the largest hindrance is the continuance of monopolies on most long-distance roads in many states for inefficient and loss-making public sector transport corporations. It is good time to disband this monopoly and gradually close down the state road transport corporations.

 

52.  Health services (GVA contribution Rs. 2.86 lakh crore in FY2018-19) is important not only for keeping India fit, but also to grow India’s national income. Primary health care services must be provided, at the Government expense, as health of citizens has tremendous externalities and, without the government support, are likely to be consumed less than required. There is still lot of public investment required for establishment of a first-rate primary health care system in the country. For secondary and tertiary care, private hospitals can provide excellent services bringing in best of the medicinal and technological advancements. The Government is helping the poorer segments of population to avail secondary and tertiary medical services in private hospitals by the Ayushman Bharat programme. There is acute shortage of trained medical doctors and paramedics in India. India can be the Hospital Services Provider of the world, with significant contribution for the national GDP, if the shortage of medical doctors is eliminated and private sector is encouraged to expand hospital services, with professional regulation.

 

53.  Telecommunications services, with about 1% of total GVA (Rs. 1.71 lakh crore in FY2018-19), is not contributing to its full potential in India’s GDP, on account of numerous problems the sector is faced with- cancellation of licences by Supreme Court, excessive burden of AGR dues under a patently wrong definition, non-auctioning of 5G spectrum at reasonable cost, development of fibre at snail’s pace, unhinged pricing of data and voice by operators to kill competition, flooding of fiscal funds in the state telecom entities to artificially keep these afloat and the like. Sector’s GVA can be easily tripled if these issues are addressed in a business-like manner.              

 

III: FINANCIAL SECTOR

 

Financial Sector Regained Orderliness Despite Coid-19 Turmoil

 

54.  All financial assets- equity, debt, foreign exchange, government borrowings- received a nasty shock when Covid-19 struck India in March 2020. Equity markets lost about 40% of their value. Debt markets literally ceased, and coupon spread for corporate papers went up sharply. Rupee depreciated to over 77 a dollar. State government papers got issued at much higher yields.

 

55.  RBI flooded the markets soon with liquidity. Cash Reserve Ratio was lowered. New instruments of TLTRO etc. were designed to infuse durable liquidity. These measures soon calmed the market. The fact that private sector credit demand evaporated both for businesses and retail made the banks return the liquidity to RBI. RBI’s management of yield curve brought the cost of government borrowing to lower levels, benefiting everyone in the process- the central government, state governments and the corporates. The governments and corporates raised record amounts of borrowings from the market. Only the Banks remained subdued in lending. Non-banks also slowed quite a lot.

 

Fixing India’s Non-Performing Loans Mess

 

56.  Indian banking system, most conspicuously the public sector banking system, is weighed down by one of the largest proportion of non-performing loans and frauds in the world. The NPAs exceed 12% of loans advanced by the PSBs. In its 50 years of history, since nationalisation, the PSBs have been in NPA crisis several times, with NPAs exceeding 20% at one time in 1990s. PSBs expanded the reach of banking to India’s hinterland but that came at a disproportionately large cost. The digital banking, with its massive expansion in recent years, has obviated the necessity of physical branches. It is difficult for the government organisations to do business. It is most difficult to for government owned enterprises to do banking business.

 

57.  It is time we reform the public sector banking. The ideas that consolidation of smaller PSBs with larger PSBs or creation of a public sector bad bank to house and manage NPAs are not going to make any difference. The consolidation of banks does not change the governing system, incentive system, and risk-taking ability to lend. Likewise, expectation that the non-performing loans can be managed better if housed in a separate vehicle are vain. We need to do re-privatisation of the PSBs, other than the State Bank of India.

 

58.  The Government should create a Sovereign Financial Asset Management Company (BharatVitta) as a holding company for all the financial businesses owned by the Government- PSBs, LIC, general insurance companies, IIFCL and sector finance companies- REC, PFC, ITFC, SIDBI, IREDA. The entire government shareholding should be transferred to this holding company by bringing necessary amendments in and repealing banking and other laws. This holding company should be a totally professionally managed company and, over a 5-year period, sell off the majority stake with management control in most of the PSBs, general insurance companies.

 

59.  Curiously, many people in private businesses, especially infrastructure space, keep demanding Government to set up a new Development Finance Institution (DFI). Financing infrastructure, which is long term commitment of equity and debt finance, is more difficult a business than the banking and hence entirely unsuitable for public sector managers to manage. All infrastructure financing institutions set up by the Government in the past have suffered. The Government should not set up any new DFI. Instead, all currently government owned infrastructure financing institutions- IIFCL, REC, PFC, SIDBI, NHB, IREDA- should be merged in one organisation under BharatVitta and restructured to be managed by professionals before being privatised.

 

Debt Markets Reforms  

 

60.  While the bank credit froze in the first half of FY-21, the corporate bonds issuance was 25% higher (Rs. 4.43 lakh crore against Rs. 3.54 lakh crore in previous year). Thanks to large liquidity infusion by RBI, corporate bond spreads declined across all segments between March and December 2020. Compared to March 26, 2020 when the corporate market yields had spiked after the Covid-19/lockdown impact had hit the debt markets, 1-year AAA bond yields declined by 383 bps, 3-month CD by 495 bps, 3-year BBB- by 276 bps and 10-year G-sec by 36 bps. The easy financing conditions were reflected in reduction of corporate bond yields over G-secs as well. AAA 3-year corporate bond yields over G-sec declined by as much as 228 bps during this period.

 

61.  There are four major problems with India’s corporate bond market. First, the non-financial real sector companies, including infrastructure companies, do not raise long debt by issuing corporate bonds. Second, amongst the financial firms, it is only the housing finance companies and government owned non-bank finance companies which primarily raise corporate bonds. While long-term corporate bonds are the ideal source of financing for NBFCs, they are not able to raise it. Third, corporate bonds are primarily issued on private placement basis, ruling out participation of retail savers. Finally, the long term and retirement saving institutions-LIC, EPFO, NPS etc.- do not invest in bonds not rated AAA which makes India not have any high-yield bond market, which funds most of non-investment grade ventures in advanced countries.

 

62.  Government would have to withdraw tax concessions and off-market interest paid on small savings schemes, encourage public sector firms to raise bonds by public issuance (like PFC did recently) and encourage long term savings institutions to invest in corporate bonds, including in less than AAA issuances. The regulatory arbitrage, in terms of default disclosures and market discipline, between loans/cash credit and bonds needs to end for bond market to development in India.

 

63.  The largest debt issuer in India is the Government of India. In FY-21, the Government of India would end up issuing about Rs. 12 lakh crore of securities, at least 50% higher than all the corporate bonds issued. Some reforms are urgently called for in the issuance and management of government securities. The Ministry of Finance should take over Government’s debt management, including debt issuance, relieving RBI of unnecessary responsibility which also puts RBI in situations of conflict of interest. The Government should raise a part, about 10% of its borrowing by issuing sovereign bonds in foreign currency to diversify its source of borrowings and cut down on interest cost. The contrivance of ‘fully accessible route’ specified securities is not going to provide benefits of sovereign bonds or even the inclusion in emerging bond market index.         

 

 

 

IV: FISCAL MANAGEMENT

 

Fiscal Responsibility Law Requires a Serious Relook

 

64.  The Government had adopted two specific goals of fiscal policy in FY2018-19; first, to bring down fiscal deficit to 3% of GDP by the FY2020-21 and maintain it at or below 3% thereafter and second, to bring the ratio of central government debt to GDP to 40% by the FY2024-25.

 

65.  These two goals, hard-coded in the Fiscal Responsibility and Budget Management (FRBM) law, are based on a flawed understanding of the working of the economic system. It assumes that, irrespective of economic cycles and the upheavals and pandemics like Covid-19, the Government should always run a steady-state fiscal policy of spending no more than 3% over its collected revenues. As the aftermath of Covid-19 showed, such straight-jacketed fiscal policy is meaningless.

 

66.  Ever since the FRBM law was adopted in FY2003-04, it has been almost impossible for the Government to stick to the fiscal targets. Except in the year 2007-08, fiscal deficits have always been at variance from the goal of 3%. While it is accepted that the FRBM law helped change the mindset of officers of the Finance Ministry, the wider Government, Parliamentarians, and people in general have not been sympathetic to this fiscal disciplining. The fact that no one has ever questioned Government’s persistent failure to stick to this target and gone to the Courts to enforce the FRBM law also proves the futility of such dumb fiscal goals. It is advisable to repeal the FRBM Act.

 

67.  A worse by-product of the inflexible fiscal policy approach is adoption of the practice to shift fiscal expenditures outside the budget. Consequently, there has been significant rise in off-budget borrowings and mis-classification of fiscal expenditures to meet the headline fiscal deficit target.

 

68.  The UPA government, to show compliance with the FRBM law, had issued fertiliser bonds and petroleum bonds from the Public Account in the wake of high petroleum prices prevalent during 2005-2008. There were other fiscal expenditures also kept outside. All current expenditures from the year 2008-09 were brought on the budget when the Global Financial Crisis provided UPA with the opportunity to raise fiscal deficits. No off-budget borrowings were resorted to thereafter by UPA. The NDA government also did not resort to any off-budget borrowing in first two years. Falling petroleum prices allowed the NDA government to raise cess on excise duties which helped in cutting down the fiscal deficit.

 

69.  The NDA government started resorting to the off-budget borrowings from 2016-17 when the NSSF account was used to pay cash for subsidy bills of FCI and Fully Serviced Bonds (FSBs) were invented to fund some infrastructure expenditures in agriculture and rural development areas. The disease became worse thereafter as the government wanted to expand expenditures, revenues were not responding post GST and the government did not want the fiscal deficit to deteriorate. Currently, the outstanding off-budget borrowings exceed Rs. 5 lakh crore and, in the year 2020-21 itself, unless corrective steps are taken, the government would be resorting to off-budget borrowings of about Rs. 2.5 lakh crore.

 

70.  There is no economic or fiscal rationale for off-budget borrowings. The only reason why the governments resort to it is to do what in private sector is known as window-dressing- the fiscal deficit should not appear to look worse and be seen contained within the FRBM mandate. This window dressing comes at the cost of ‘adjustments’ in fiscal accounts, higher interest cost to the government and opaqueness in the bond markets.

 

71.  We need to clean this up and restore the sanctity of fiscal accounts and budgeting. All the off-budget liabilities should be brought in the revised budget estimates of FY2020-21. Bringing such off-budget fiscal expenditures of about Rs. 5 lakh crore in the books would add about 2.5% to the fiscal deficit. This, however, does not change the actual expenditure in any case.  

 

72.  In the current year 2020-21, additional revenue shortfall of about Rs. 4 lakh crore, additional expenditure of about Rs. 2 lakh crore and bringing in of the off-budget expenditures of about Rs. 5 lakh crore adds Rs. 11 lakh crore of additional deficit to the budgeted deficit of Rs. 8 lakh crore. The revised fiscal deficit of Rs. 19 lakh crore will be about 9.5% of the contracted GDP of Rs. 195 lakh crore.

 

73.  The proposal to repeal FRBM Act and fiscal deficit of 9.5%, with one time clean-up of off-budget borrowing, might come as a shock to many market participants. But this is the reality. The clean-up of fiscal deficit system will definitely increase transparency, predictability, and credibility of the budgeting and fiscal position of the Government.

 

74.  Repeal of FRBM law should not, however, mean free licence to load up debt, under the mistaken assumption that the government debt remains sustainable as long as growth exceeds rate of interest. The sustainability of government debt- defined as constant or falling ratio of debt to GDP- is ensured by increase in government debt not being higher than the rate of GDP growth, which is a relationship without much to do with the rate of interest. India has suffered massively on account of excessive debt raised by the Government. The Government must ensure that it raises only that much of debt, that too keeping cyclical considerations in mind, which ensures that the rate of growth of debt remains less than the rate of GDP growth.

 

Investment and Institutional Reforms for Accelerating Infrastructure Investments

75.  Government’s capital expenditure has been essentially directed towards four sectors- railways, roads, defence, and urban infrastructure, which includes affordable housing and metro-rail services. In the year 2019-20, more than 60% of the capital expenditure (of Rs. 5 lakh crore) was made on these four heads of infrastructure. Much more infrastructure expenditure is incurred through Public Sector Undertakings and specialised off-budget vehicles like NHAI etc. As commercial considerations do not inform selection of the infrastructure asset to be created, there is a big tendency to make selections on political considerations rather than economic. This has led to the cost of approved projects being 25-50 times of the annual capital expenditure. This makes it impossible to complete the existing shelf of projects even in 25 years. This mess has to be sorted out.

 

76.  A two-track approach can help. First, weed out mercilessly all uneconomic projects, not justifiable even on an objective public interest criterion, writing-off the incurred expenditure. Second, increase the allocation on the remaining projects to Rs. 15 lakh crore with determination to complete all these selected and incomplete projects within 5-7 years. This ruthless approach will lead to capital expenditure expanding 2X and the infrastructure assets getting completed and contributing to productivity in the economy.

 

77.  Creation of infrastructure, both financially viable (which can be built privately with or without viability gap funding) and financially non-viable (public infrastructure), has to be funded. Government has established numerous financial institutions to serve this need. IRFC funds non-viable railways capital investment. PFC and REC fund power sector capital investment of bankrupt state electricity utilities. IIFCL, IREDA, TFCI etc. provide debt to private sector infrastructure projects, including those assisted through viability gap funding from the government. NIIF provides equity to public and private sector commercially viable infra projects.

 

78.  The infrastructure financing institutions need to be consolidated into three verticals- equity financing, commercial debt financing and public infrastructure financing. Simultaneously, the government’s infrastructure institutions, currently organised as departments like Railways or public authorities like NHAI need to be corporatised and focused on building and operating infrastructure, largely in public-private partnership mode. Another corporation in the road sector- NHIDCL should be merged with corporatised NHAI or vice versa.

 

79.  After mergers, consolidation, and closures, three entities, owned or substantially financed by the Government of India, should remain in the infrastructure financing space. First, NIIF for funding equity. Second, an Indian Public Infrastructure Debt Financing Corporation (IPIDFC) for financing public infrastructure- whether rail, road, power, urban infrastructure, metro, or any other deserving public infra of the central government or state governments- by merging IRFC, PFC, REC, ITFC and other similar entities, to raise debt from the market under government guarantee which would be serviced by the governments from the budget. Third, a commercial infrastructure debt financing agency- IIFCL- by merging other commercial infrastructure debt financing agencies of the government. Equity in all these three institutions will be provided by the Government to the extent it cannot be raised from the public.

 

Launch Massive Environmental Clean-up Public Expenditure Programme

 

80.  Seven out of ten most polluted cities in the world are in India. National capital Delhi suffers from the worst form of pollution in winters making life of residents unliveable. India’s rivers are polluted to the core. Yamuna is more a sewerage drain than a fresh-water river. There is very perfunctory sewage disposal- whether liquid or solid- and treatment in most Indian cities and towns. Indian villages do not get a broom cleaning even once a month. Air is toxic, water is unfit for human consumption, skies are brown, and soils are bereft of nutrients. It is an environmental emergency, which the Government has to address.

 

81.  India has experimented with national policy making, cooperation and coordination in various fields. National Integration Council for communal harmony, National Development Council for development cooperation, Goods and Services Tax Council for GST policy, coordination and negotiations and a few others. India needs to set up a National Environmental Council for national policy making, standard setting, fiscal cooperation and monitoring of public expenditure programmes for environment clean up. This Council, set up as a statutory organisation with authority and decision-making powers stronger than the GST Council, should be headed by the Prime Minister with Chief Ministers of all the States as its members. The Council’s mandate should be to clean-up India environmentally which should mean that no Indian city remains in the first 50 of the most polluted cities, waters of all rivers restored to fit for human consumption and no place in India having AQI of air less than satisfactory throughout the year.

 

82.  Ambitious environmental agenda would require more than setting up a high-powered National Environmental Council. The standard setting, regulatory, judicial, and fiscal expenditures arrangements and institutions in the country also need to transform to be fit for the purpose. All the standard setting and regulatory bodies- air and water pollution boards etc.- needs to be brought under one single law and converted into one national organisation with branches and roots in all the states. Fiscal expenditures on environmental clean-up needs to be made ten-fold with immediate effect and then raised to 1% of GDP by 2024-25. The massive increase in environmental fiscal expenditures should be aimed at making sure that all cities, towns, and villages have appropriate sewerage collection, disposal and treatment arrangements with no pollutant entering in the rivers, lakes and other water courses, no pollutants are released in air from agriculture, homes or industry and extra existing load of pollutants in the air are sequestered. Green earth, blue sky and pure air and water are the natural rights and entitlements of humans and all living beings.

Streamlining Public Expenditure and Redistribution Programmes

83.  There are two primary functions of the central government.

 

84.  One, provision of public goods and services. Defence, internal security, environmental well-being like control of pollution, law and justice, macro-economic stability, regulation of markets, currency and the like are some of these public goods and services. Some functions like provision of primary education and primary health, which have positive and negative spill-overs or externalities are also such public goods and services. The central government, under the social contract with the people and under the constitutional scheme of things, is duty bound to deliver such services for the areas assigned to it under the Constitution.

 

85.  Two, redistribution. The poor have to be provided resources to meet their minimum needs. The rich have to be taxed to provide resources for transferring to poor people for minimum consumption and to reduce inequality in the society. There are three groups of poor who need support from government. First, the destitute- who are poorest of the poor. The destitute are the people who cannot work and earn their living i.e., the old, infirm, handicapped and the like. These people need both financial (cash transfers/ pensions) and non-financial (health, housing, access to roads etc.) support. Second, the economically poor- who can and do earn but not enough for leading a healthy and productive life. Such people also need two kinds of support; first, access to basic necessities of life like electricity, gas, toilets, house etc. to build productive lives and second, skills and financial support for taking up economic activities to enhance their incomes. Third, the vulnerable non-poor- the people who ordinarily earn adequate income to lead a healthy and productive life but in natural or man-made catastrophes fall back in poverty. They need support for meeting such adversities, like joblessness caused by Covid-19.

 

86.  The central government implements its redistribution function through hundreds of schemes delivering benefits in cash (direct cash transfer or wages) or in kind (education, skill development and so on) to the households falling into categories of destitute and poor. Budget 2020-21 has about 100 demands, which allocate expenditures of Rs. 5.33 lakh crore to serve the redistribution objective. A good part of redistribution expenses, like food subsidy to NSSF, is off-budget. Including off-budget redistribution expenditure of Rs. 1.13 lakh crore, total allocation for redistribution purposes is Rs. 6.46 lakh crore in BE21.

 

87.  There are five basic reforms required in our expenditure framework. First, downsizing budget allocations for private goods and services, which would require closure of many loss-making public enterprises. Second, discontinuing market-distortive programmes, like in the agriculture and MSME sector for better competitiveness of our agriculture and industry. Third, reforming the redistribution programme by overhauling hundreds of redistribution programme into three basic schemes to support destitute, economically poor and vulnerable poor. Fourth, refocussing and expanding the public goods expenditure. Fifth, careful management of debt and grant of post-retirement benefits.

 

88.  Another reform in redistribution services is to think of delivering cash benefits from the household perspective and not from the departmental perspective. All the cash benefits delivered today- PM KISAN, payments to labour, scholarships and so on- can be pooled together in three specific pools of funds- one for the destitute, another for economically poor and the third for the economically vulnerable. Depending upon a conditionality framework (health status, no of children, type of house lived in and so on), appropriate level of a single cash transfer can be made to each of the concerned household per month. This reform can be made much faster. It will serve the poor households much better. It will also save a lot of money, not less than Rs. 50000 crore a year.

 

Reverse Fiscal Unionism

 

89.  Quite a few disquieting developments have been taking place in fiscal federal relations of late. Government of India did not compensate States for 14% revenue growth in GST this year. Compensation due for the FY-21 is being dealt with in three different forms- grant compensation to the extent of collection of GST compensation cess, back-to-back loans raised by Government of India to the States (with full repayment of interest and principal from GST compensation revenues after 2022) and the remaining amount to be raised by the states as borrowing on their own. This mode of compensating states has been decided unilaterally by the Government of India. Another major decision- to give states interest free loan for aggregate amount of Rs. 12000 crore for 50 years- is going to subject states’ borrowing freedom to centre’s control for long time to come. The CSSs are increasingly being implemented by bypassing the states in the name of direct benefit transfers. All these have shaken the foundation of fiscal federalism in India, veering the whole arrangement to a virtual fiscal union. 15^th Finance Commission has given its recommendations. Some of the terms of reference of 15^th Finance Commission were also designed to give precedence to the Centre and make States fiscally subordinate.

 

90.  It is time a major reset is done in the fiscal financial relations for restoring fiscal sovereignty of the states. All CSSs should be merged into a pool of central assistance to the States with states’ share determined in the ratio of Finance Commission’s vertical devolution formula. The CSSs Pool may offer a menu of schematic options to choose from. The share of any particular state in the CSS pool may be transferred to the State for the schemes chosen by the States. No CSS should be implemented as central government scheme. The central government should refrain from coming up with any central sector scheme in the states’ domain. Existing schemes should be merged in the CSSs’ pool. XV FC recommendations on the performance-based grants TOR should be freed of any central government monitoring bias. Preferably, such schemes should also be merged in the CSSs’ pool.

 

Unfinished Agenda of Tax Reforms

 

91.  India has carried out significant tax reforms in last six years. Indirect tax system has been substantially transformed by first brining Central VAT, then VAT and finally GST, by merging a number of central and state commodities and services taxes and cesses in the nation-wide Goods and Services Tax (GST) system in 2017. The corporate taxes and taxes on manufacturing were rationalised to globally competitive rates in 2019. In the interest of equity, the long-term capital gains tax was imposed on equities in 2018 and dividend distribution tax was abolished in 2020.

 

92.  GST, while being a massive step forward in reforms of indirect tax system, still has several deficiencies. Petroleum products are out of GST. There are uncomfortably large number of tax rates with quite a few important goods- cement, cars etc.- suffering taxes at the highest rate of 28% and also additional cess. There are cesses like the road and infrastructure cess on petrol and diesel which are unjustifiably not shared with the states.

 

93.  On the direct tax front also, there is significant unfinished agenda. In fact, there are numerous distortions brought in last few years. There are too many rates of applicable personal income tax on account of surcharges levied in 2019. Undue complication has been created in 2020 by prescribing different tax slabs for the assesses who opt to avail exemptions and who want lower tax rates without exemptions. Present structure of income tax on businesses is also unnecessary complex and unfair with companies, irrespective of small or large, taxed at a lower rate, whereas household and unincorporated businesses are taxed at personal income tax rates. Partnerships, including LLPs, are subject to a different direct tax regime.

 

94.  Following tax reforms need to be taken up to complete the unfinished agenda:

 

a.    Integrate petroleum products with GST. Extra incidence of Value Added Tax on petroleum products can be protected for 5 years by converting the same in fixed rate excise duties sharable as per Finance Commission devolution formula. The road and infrastructure cess should either be merged with the fixed rate excise duties or be made sharable in 60:40 ratio between the Centre and the States. All cesses/surcharges should be abolished except a 5% environmental cess on all commodities and services, other than those classified as ‘environmentally safe’.

b.   GST rate structure should be drastically reformed by adopting a 2-rate structure- 2% and 20%. Only the goods largely consumed by poor and some tax sensitive commodities like gold can be taxed at 2%. All other goods and services (about 90% of goods and services in expanded tax net) should be taxed at 20%. This reclassification should be by and large revenue neutral and will make the GST tax system simpler and fairer.

c.    A new Direct Tax Code needs to be brought in dividing the incomes basically in two- business income and personal income by doing away with the present classification of income in six categories.

d.   Irrespective of legal structure of business entity- company, trust, partnership, proprietary concern or any other- the business income should be subjected to a single rate of business income tax (BIT)- a higher rate say 25% for large business (taxable net income Rs. 1 crore or more) and a lower rate say 10% for all small businesses (taxable net income less than Rs. 1 crore) with tiny businesses earning less than Rs. 2 lakhs exempt from income tax.

e.    Personal income tax (PIT) system needs to be restored to its 1996 configuration with three slabs of 10%, 20% and 30% incomes up to Rs. 2.5 lakh (2019-20 prices) suffering no tax. The PIT should be thoroughly simplified by eliminating all exemptions and abolishing all cesses/surcharges, except a surcharge of 5% on incomes above Rs. 1 crore. 

 

Fiscal Expenditure Programme for 2021-22

 

95.   The Government has non-discretionary expenditure commitments for interest, salaries, pensions, Finance Commission transfers to States, GST compensation payment and a few other expenditures. In 2020-21, the expenditure budgeted for these non-discretionary heads was Rs. 16 lakh crore. Despite some withholding of DA/DR instalments, non-payment of GST compensation to the States etc., the non-discretionary expenditure of the Government is likely to end up at Rs. 15 lakh crore in 2020-21. The Government is likely to see this expenditure increase to about Rs. 18 lakh crore as DA/DR are restored, recommendations of XV FC are implemented, general price rise feeds into salaries and pensions and interest bill increases on account of much higher base of public debt.

 

96.  Transfers to the States in the form of centrally sponsored schemes and some central schemes are about Rs. 5 lakh crore a year presently. Considering higher health expenditures and the intent of the Government of India to be seen funding the welfare of people, these expenditures are likely to increase by about 20% to Rs. 6 lakh crore.

 

97.  The expenditure on Government of India programmes, including capital expenditure, which were budgeted at Rs. 7 lakh crore in 2020-21 must see a much higher expenditure budgeting to fund expanded infrastructure programme, big environmental clean-up programme and expanded redistribution programmes. The expenditure under this broad class of expenditures should be budgeted at Rs. 12 lakh crore.

 

98.  The Government of India should budget expenditures of Rs. 36 lakh crore for the year 2021-22, which would be an increase of about 18.5% over the BE of 2020-21.

 

99.  On the revenues front, the Government should budget for Rs. 17 lakh crore of net tax revenues, Rs. 4 lakh crore of non-tax revenues (banking on much larger surplus transfer from RBI including the withheld surplus of 2020-21, revenues from spectrum sale and other assets) and Rs. 3 lakh crore of proceeds from sale of PSUs and shares of Indian Sovereign Assets Corporation. Government’s all revenues receipts can be expected to be Rs. 24 lakh crore.

 

100. This will leave a fiscal deficit of Rs. 12 lakh crore. As the nominal GDP is expected to rise by about 15-16% which should print nominal GDP for 2021-22 at Rs. 225 lakh crore. This will lead to fiscal deficit to GDP ratio of about 5.3%. Considering that there would no off-budget borrowings and this would mean an improvement of 1.7% over the fiscal deficit of 2020-21 (if off-budget borrowings are not brought on to the budget). This should provide a right balance of fiscal stimulus, fiscal correctness, and fiscal discipline.