Thursday, March 9, 2017

Budget 2017-18 in Perspective


  As a long term observer & commenter on budgets there are three aspects that are noteworthy from my perspective. One, the fiscal objectives of the government & action taken in achieving them, two the actions required post-demonetization to achieve/sustain its positive effects, and three the policy reforms in the budget that help achieve efficient growth & employment creation.

Fiscal Prudence & Programs

  After achieving the fiscal targets for 2016-17, the issue was weather to stick to the target of 3% for 2017-18 or to exceed it in the interest of greater investment expenditure on infrastructure. Govt managed the delicate balance, by relaxing the target by 0.2% to 3.2% while raising capital expenditure by 25% in BE terms (11% BE/actual). This allowed it retain its hard won fiscal credibility while addressing concerns over falling national investment rate by stepping up infrastructure investment & encouraging complementary private investment.
     The budget also fine tuned allocations on existing programs of the govt. (Swach Bharat, Skill India, Digital India/e gov) without introducing any adventurous new programs, that could become budget guzzlers. This was widely welcomed, though there was some disappointment that the move from inefficient, leaking subsidies to direct benefit transfers wasn't accelerated despite the success of LPG subsidy reforms.

Managing De-Monetization

  Soon after the demonization I had defined three potential areas of benefit and the policy actions needed to actualize and sustain them. The budget (& pre-budget announcements) offered some action on each, thus meeting the benchmarks one had set. Despite the predictable negative effects on GDP one had projected an increase in income tax related declarations & collections. This however needed to be sustained by implementation of promised corporate income tax reductions, and some movement on personal income tax reform(PIT). The PIT rate in the lowest bracket was reduced from 10% to 5% to incentivize new tax payers to enter the system. As this creates a sharp jump in rates between the first and second brackets(20%), and the reduction was offset by a rise in surcharge, it will require more comprehensive PIT reform in the next budget, including another look at exemptions & deductions. A clever way was also found to identify a set of CIT paying companies with high effective rates (>30%) and to reduce these to 25% without changing either the rates or the deductions-exemptions for the rest. Again in this case we would expect a more comprehensive reform in the next budget.
     The second area was housing and real estate. I had projected that demonetization would reduce prices, by reducing the black money part of the price. However, policy actions should make it easier for prices to fall (e.g. By reducing circle rates & stamp duties) and to make it easier to get credit for and do transactions in white. Pre-budget announcements on credit & interest subventions for low cost housing were followed in the budget by reduction in effective capital gains for one house, and easing of rules & conditions for creation of affordable housing. Eventually the whole policy approach to Housing & real estate would have to change from viewing it as a UN of black money to a white investment on par with investment in machinery & equipment of financial instruments.
     The third area was political-bureaucratic-police corruption, which has become the most important generator of black money in the last 30 years. To my surprise the budget accepted the Election commission recommendation to reduce the limit for acceptance of cash donation from an upper limit  Rs 20,000 to 2,000. Political parties who have complained that it is still too high should join the govt in reducing this further to Rs 200 or Rs 20. The 2nd proposal was the introduction of a bond that would make it possible to use tax paid income to make donations to a political party instead of being forced to generate black money to make anonymous donations. The bond will not make donations transparent, only make it possible to use "white" money for political donations.

Policy & Institutional Reforms

    Reform of ESI, PF and other social security subventions, which add ~ 30% to the cost of labor(with << commensurate benefits to workers), was promised in the last budget, but has made slow progress. Without it, the ban on cash payments above Rs 3 lakh is likely to have unanticipated consequences. It will make large scale subcontracting of labor very difficult and thus reduce informal employment further. At the same time the 30% addition to wage costs will continue to incentivize more capital intensive production methods in the organized sector.
  Reforms for sustaining economic growth and employment generation are a continuing, incremental process, and this budget had its complement of small but welcome announcements in several areas. In agriculture this included an intention to remove perishables from the ambit of the APMC, a model law for contract farming and further progress the national agricultural market (E NAM). There was also a commitment to integrate the 50 odd labor laws into 4 rationally organized ones. This is an essential compliment to the two track approach to labour reforms, where certain politically difficult issues are left to the States, while Center carries out the broader reform. Two other small but critical steps were the intention to abolish the Foreign investment promotion board (FIBB) and to resolve the legacy problems of PPP contracts by including it in the Arbitration law. The FIPB is a symbolic step but along with continuing reduction in Sectoral restrictions has a good effect on new investors. Financial sector reforms continued along the direction set by the Financial sector code. An announcement which is critically dependent on implementation is Strategic sale. The receipt budget made a provision of Rs 15,000 cr out of a total disinvestment target of Rs 72,000 cr. I read that as in indication that this process will finally start in 2017-18.


     In conclusion and on balance a good budget, as it was consistent with my expectations and benchmarks. 
A version of this article appeared in the Hindu Business Line of  February 28, 2017, under the banner, "Viewing the Budget in Black and White."  

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