Doing the Poll Dance: DNA 28th February 2008

Next year’s elections loom large over the Budget and could give it a populist tilt
The Budget is a financial statement of the government, much like the P&L a/c of a company. Yet there is much ado about it and a lot of newsprint goes into the pre and post-Budget analyses. The reason is simple. The Budget sends out very critical signals for the people in terms of the tax proposals and expenditure outlays. Unlike monetary policy where the RBI can intervene during the year and alter rates, the same is not the case with tax proposals. It is hence an important tool for financial planning for individuals and companies alike.
As a rule, individuals and companies want to pay less tax. Further, when it comes to indirect taxes, the task is more onerous. While the auto industry wants duties to come down on steel, the steel industry wants the customs rate to move up to tackle competition. Therefore, a delicate balancing act is called for. To top it all there are committed expenditures like subsidies, interest, and defence, which cannot be compromised. Then there is the ubiquitous development expenditure, which has to be invoked to provide real benefits to the people. After doing all these balancing jobs the fiscal deficit, which is the final test of fiscal virtuosity, needs to be curtailed at 3 per cent of GDP.
This is an Election year Budget because next year there will be only a Vote on Account. Therefore, it has to be benign. There will hence be no increase in the income tax rates. In fact, the exemption limit could be raised to Rs1,25,000 or Rs1,50,000 to placate the masses. The corporate sector would like to have a lower rate with similar adjustments in the MAT (Minimum Alternate Tax) and FBT (Fringe benefit tax).
But the FM has a problem here. This year, he has managed to raise tax collections with ease due to a combination of high growth and better compliance. Overall growth in FY09 is still an unknown quantity and there are some signs that the economy may have slowed down in FY08. This being the case, overall buoyancy in tax collections could dip with the existing structure of taxes. At the same time, increasing rates can be ruled out as the FBT, MAT and STT (securities transactions tax) are unpopular.
The same holds for the indirect taxes where growth in collections has been based on a larger base of imports and industrial production. Higher price of oil, for instance, has increased customs collections. The Budget would address certain specific issues relating to the textiles sector (their existence has been affected by the rupee appreciation). Therefore, on the income side, the government has to base the proposals on higher growth to garner higher revenue.
Alternatively, the government could think of fixing its revenue conservatively by taking in a more moderate growth rate of 8 per cent and then planning its expenditure. But there are problems here which make expenditure planning more problematic this year.
There are essentially two parts to the expenditure story. The first is the development aspect. Special groups to be targeted would be the farmers, through credit waivers and cheap loans. Then there is rural infrastructure, social compulsions like water supply, education, food for work, and so on, which are mandatory expenditures this year. With these amounts being necessary to remain populist, the attention will be on the second part of the story: non-development expenditure.
There are four new problems which are hard to surmount. The first is the food subsidy, which cannot be compromised in an Election year though we could see a new PDS being introduced. Secondly, in the case of the petroleum subsidy, the burden could be too much as it may not be possible for the government to raise the prices of petro products in an Election year.
The third is interest payments, which has been taking a nasty hit on account of the MSS (Market stabilisation scheme) bonds that have been issued to control the inflow of dollars into the country. Unless these flows slow down, which is unlikely, these bonds have to be issued to stabilise the rupee.
The last is the recommendations of the 6th pay Commission which will be submitted later this year and would be adopted immediately, to reach out to the middle class.
The Budget will hence necessarily have to display a lot of character: it has to raise revenue without increasing rates; and at the same time manage development expenditure, subsidies, Pay Commission and interest payments. The strong premise is the bargain on higher growth.