A Budget with a long-term view

A long wait for the middle class of India, that was predicted by even the cognoscenti to last for at least another year came to a happy end towards the end of the Finance Minister’s budget speech on February 1. The various personal income tax reliefs announced in the budget expectedly gave rise to a general ‘feel good’ sense which found expression in the SENSEX rising by about 1000 points in its immediate aftermath.

Expanding credit guarantee for MSMEs is welcome, as is the focus on technology and skill development

The counterintuitive part of the tax proposals was a sizeable cut in the highest surcharge rate from 37 per cent to 25 per cent applicable to individuals with an annual income of Rs. 5 crore or more. Not too long ago, this would be seen as almost heretical, being seriously at odds with the country’s socialist promises and beliefs, and, hence, would bode ill for the ruling party’s prospects in the State elections that are to be held this year. But, by all indications, the age-old narrative linking distribution of handouts and frugality in meaningful tax reforms to success at the hustings in a causal sense is losing its appeal and currency. That said, the Finance Minister sounded a bit overconfident in several of her budget proposals. But then, the political landscape of the country has changed significantly since 2014.   

Fiscal journey to India@100

A year ago, Finance Minister Nirmala Sitharaman laid out a path to steer the economy through the next 25 years. The strategy outlined there involving large infrastructure investment and measures for making the country a manufacturing hub finds reflection in this budget as well.  The 2023-24 budget envisions a technology-driven and knowledge-based economy with strong public finances, and a robust financial sector for this time period.

Though worded in broad terms, yet these could provide a politically unbiased reference framework to evaluate the performance of the government in the years to come. Also, the grouping of the major policy and programme initiatives of the budget under seven priority areas is a good starting point for the budget to have more focus and clarity. One only hopes that this structure of the budget is followed and perfected in future as well.

Specific proposals and initiatives

Coming to the specific initiatives under various priorities, a few points need to be highlighted:  One, the budget makes an allocation of a record Rs. 22138 crore aimed at MSMEs, whose importance as a major contributor to India’s gross value added (GVA) and in providing employment is well-recognised by all political parties. As per a recent report prepared by a venture capital fund, although this sector has experienced very impressive growth during the last few years, there is still a huge credit gap, 95 per cent of which is on account of micro and small enterprises as most of them do not have adequate documents needed for credit appraisal and any asset to be offered as collateral.

A very interesting finding of this report is that the total debt owed to the MSME sector is more than 2.5 times the credit gap. The inability of this sector to collect their receivables fully and on time is one of the main reasons of the persistently high NPA and stress in the MSME loan portfolios of banks. Expanding the ambit of credit guarantee for small and micro enterprises, as envisaged in the budget helps, but unless all the core and structural issues pertaining to them are addressed, the dream of having an Indian variety of ‘Mittelstand’ will continue to illude us. 

Two, for the country to become a technology-driven and knowledge-based economy, the availability of a large and expanding pool of adequately skilled human resources is a sine qua non. Unfortunately, the deficit in this regard is presently enormous. Anecdotal evidence suggests that quality engineers number not more than 25 per cent of those who pass out of engineering colleges each year. Worse still, the number of technical hands with knowledge and skill in artificial intelligence, machine learning, data science and mobile technologies is remarkably low. The initiatives proposed in the budget for skill development are all noteworthy but the challenges in this regard call for a more robust response. To begin with, the functioning of AICTE should be subjected to a high-level review by a panel of professional experts reporting to the HRD minister.

Ask any banker how complex or how useful the banking regulations are? Or ask any mutual fund how high is the cost of compliance?

Three, the country requires a ‘green transition’ not just to achieve its goal of zero net emission by 2070, but also to escape ‘green tariffs’ that are likely to be imposed by EU members on imports of steel, cement, aluminium etc. from high-carbon countries such as India. The budget indeed talks about green industrial and economic transition, but a much wider and comprehensive initiative is required to find ways in which, especially the private sector will be able to finance the transition at an affordable cost.

Four, the budget proposal to cause a comprehensive review of the existing financial sector regulations to simplify, ease and reduce the cost of compliance has been long overdue. Ask any banker how complex or how useful the banking regulations are? Or ask any mutual fund how high is the cost of compliance? The banking regulations often tend to be prescriptive particularly on all matters relating to risk management with the result that banks often have a false sense of assurance on the quality of their risk management if they are in compliance with regulatory guidelines.

The external headwinds may accentuate resulting in lower GDP growth, adversely impacting the government’s revenue

The controversy that surfaced about a week ago on the back of allegations of stock price manipulation and accounting fraud by a very large family-run conglomerate that led to the withdrawal of its FPO on Tuesday has raised questions about the quality and effectiveness of equity market regulation in India. The sooner the review exercise is taken up and completed, the better it will be for all concerned.             

Fiscal consolidation

The government can claim some credit that GFD for 2022-23 has been contained at the budgeted figure of 6.4 per cent of GDP. However, the revised estimates of both the revenue deficit and primary deficit have been higher than their respective budgets. The GFD for 2023-24 has been pegged lower at 5.9 per cent. However, there are downside risks to achieving the mid-term goal of reducing it further to 4.5 per cent by 2025-26. For one thing, the steep rise in both direct and indirect taxes being witnessed may not sustain that far.

The country cannot expect any upward revision in its credit rating in the foreseeable future

For another, the external headwinds may accentuate resulting in lower GDP growth, adversely impacting the government’s revenue. Fiscal consolidation has yet to traverse a long distance, with the primary deficit for 2023-24 being budgeted at a high of 2.3 per cent of GDP. The total debt of the Central government is estimated to rise from 55.67 per cent to 60 per cent in 2023-24.

Despite the success of GST and significant improvement in the machinery and governance of direct tax collection since 2014, and rise in tax buoyancy in recent years, gross tax receipts at 11.1 per cent of GDP for 2023-24 is only 1 percentage point higher than the corresponding number in 2013-14. All in all, the country cannot expect any upward revision in its credit rating in the foreseeable future.

In sum, this budget is a bold one that builds on the confidence of the government gained from the healthy GDP growth and turnaround in its finances in the post pandemic period so far.              

 (The writer is a former central banker and a consultant to the IMF)