Formulating the Union Budget was always going to be a difficult task given that the economy has not been faring that well and there have been numerous pressures on the FM to provide the right impetus to various segments of the economy.
Therefore, there are two sets of issues that need to be addressed here - the first relates to how it affects the lives of the common man and the other is whether it is able to address issues relating to the economy, which are more macro in nature.
The high inflation scenario in the last two years has actually brought down real incomes of households by between 15- 20%. Ideally one would have liked a direct adjustment to the tax exemption limit by the inflation number.
But as this is not possible given that the Direct Tax Code has already set the basic rules for the same. Against this background the budget has blown hot and cold. There are certain concessions given on the taxation front though the inflation potential is latent in the system. Net disposable income should improve across the board, though admittedly one would have liked to see greater concessions here.
The other issue, which has been a concern for households is whether or not they would get to save more through the provisions made in the Budget.
The present limits of Rs 1 lakhs for tax savings scheme and another Rs 20,000 for infra bonds did need to be revised both from the view of providing households with additional space here as well as getting in long term funds to support investment especially in infrastructure.
Therefore, the Budget has made some concessions here in terms of providing tax set offs in a new equity scheme. But, there have not been any big measures that would radically channel funds into various savings schemes.
The reason can be that the government has tried to lower the loss of tax revenue from any of its measures.
The third concern for individuals is, of course, inflation.
One may recollect that the government has as part of the fiscal stimulus in 2009 lowered the excise rates by 2%. There have been strong arguments that there should be a revision of these rates for both excise and service tax to 12% to mobilize more revenue as this would only mean reversing an earlier measure. The budget has raised the service tax, excise duty and customs duty which along with the higher freight rates announced just before the presentation of the Railway Budget will tend to put upward pressure on prices.
Presently it is not possible the gauge the impact of these price increases, though the direction is known.
The macro economic impact of the Budget is also very important considering that there have been slippages last year because the assumptions made at the beginning of the year did not hold. The sense that we get is that the government expects a higher growth rate this year which will enable them to increase the revenue collections.
The overall direct tax rate changes are to lead to a decline in collections while those on indirect taxes will increase revenue. There has been an earnest attempt made to control the fiscal deficit which is encouraging though admittedly we will have to see if the goals are translated into results during the course of the year. The number of 5.1% looks reasonable provided as all the conditions are satisfied.
In terms of reforms, the budget has made attempts to bring about greater investment in infrastructure and also address issues in agriculture.
Flow of funds to infrastructure would increase, though again admittedly this has to be persevered with over a longer period of time to actually generate tangible results. The latter is more through improving the flow of credit by putting a higher target for banks. The interest rate subvention at 7% will be useful for the farmers at a time when inflation has been high.
On the whole, the budget appears to be fairly balanced as it has tried to do whatever is needed to provide relief to the middle class as well as provide the right inputs to industry to expand further so that the growth process is also kept on track, which is finally important at the end of the day. One would have liked to have gotten more concessions - both individuals and corporates, but given the tight economic conditions and the pressure to enhance revenue; this was the best package that could be delivered.
Quite clearly other bodies such as the RBI and commerce, disinvestment, and agriculture department should follow up with appropriate measures to ensure that the budgetary impetus is sustained in the same direction.
Saturday, March 17, 2012
Budget 2012: The loudest cry is for fiscal consolidation: DNA 17th March 2012
Much has been expected form this Budget given that growth conditions have turned out to be much lower than what was expected at the start of FY12. The problems at hand before this Budget were as follows: low demand conditions; low investment due to lower government spending as well as high interest rates; limited reforms during the year; declining growth in exports and industrial production; and high inflation and low investment in an environment when fiscal slippage has been sharp. The ambitious target of 4.6% of GDP has gotten finally revised to 5.9%. The loudest cry has been for fiscal consolidation.
While the finance minister has spoken about the main objectives being stimulating demand and investment, delivery systems, malnutrition and infrastructure, the thrust appears to be on bringing about fiscal consolidation while providing incentives to all the constituents of the economy without impinging on revenue collections and adding little to inflation. More importantly, there have been some attempts made to better rationalise the subsidies on fuel and fertiliser, though the details have not been spelt out. Their levels are expected to decline this year.Revenue increase of around 22% is to come from higher indirect taxes and supported by disinvestment of Rs30,000 crore. Working backwards, the government has targeted a lower fiscal deficit ratio which will be contingent on the various growth projections as well as revenue collection working out on disinvestment.
On the expenditure side, there has been a strong bias towards infrastructure - both rural / agriculture and general. The former is encouraging when juxtaposed with the rural development programmes that have been enhanced for this year. These allocations, however, have been on for quite some time now and it is time for the government to actually assess in detail the efficacy of these allocations. An audit of these programmes would be seriously called for to assess whether these piecemeal allocations have really worked or not.
On the revenue side, Pranab Mukherjee has played a balancing game in trying to give a little everywhere with the focus on getting in some additional revenue. Individuals are better off in a way as they will pay less tax, though the gain is lower at higher levels. Certain tax saving schemes will benefit those with lower incomes.
Although there is nothing for corporates on the tax front, though there are sector specific benefits, there is an expected loss on direct taxes for the government.
The excise and service tax increases may be considered to be reversals from the time of the fiscal stimulus. But more importantly, we need to move faster to the goods and sales tax and direct taxes code so that the tax rates and collections are rationalised. But the fact that these indirect taxes have been increased is indicative that there could be some pressure on prices. More so since the rail freight rates have also been increased just before the Railways budget.
The fiscal deficit ratio is, of course, a concern. At 5.1%, it has been projected to be lower than that in FY12, but there are two issues here.
First, the number by itself is quite large at Rs5.1 lakh crore which has been the case in the last few years since FY09. This puts a lot of pressure on the liquidity in the system, and given that we could expect a revival in industry, there will be demand for funds from this end which has to be supported by the system. This may not have mattered in FY12, but could do so in the new financial.
Second, whether this number (5.1%) is credible enough. While the scaling down of the deficit ratio from 5.9% to 5.1% looks reasonable, there are some assumptions behind this number. We are assuming a stable global and domestic environment with some recovery in output. The joker in the pack would be oil prices because presently the Budget expects this subsidy to come down by around Rs25,000 crore. But, what happens in case crude oil price spikes due to the Iranian crisis?
Does the Budget actually meet the concerns of the economy? Growth is an assumption made in the budget and the fact that it talks of encouraging investment, it is possible to conclude that it is supporting growth. Inflation is an uncertain element here, which cannot be avoided considering that any kind of fiscal consolidation has to necessarily be done through additional taxation. The corporate sector does not get any direct benefits as such, as it is involved with higher customs and excise duties.
To the extent that the focus is on infrastructure, however, there is a positive there.Oil companies too would be better off hopefully. Public sector banks will be better capitalised while the capital market has something to cheer with the securities transaction tax being reduced. The Budget is silent on reforms though it talks a bit of what could be done on foreign direct investment in retail.
Maybe, nothing wrong here given that this may not be an objective of the Budget. Therefore, a little bit for everyone seems to be the ideology while hoping that the assumptions hold and the deficit is reined in.
While the finance minister has spoken about the main objectives being stimulating demand and investment, delivery systems, malnutrition and infrastructure, the thrust appears to be on bringing about fiscal consolidation while providing incentives to all the constituents of the economy without impinging on revenue collections and adding little to inflation. More importantly, there have been some attempts made to better rationalise the subsidies on fuel and fertiliser, though the details have not been spelt out. Their levels are expected to decline this year.Revenue increase of around 22% is to come from higher indirect taxes and supported by disinvestment of Rs30,000 crore. Working backwards, the government has targeted a lower fiscal deficit ratio which will be contingent on the various growth projections as well as revenue collection working out on disinvestment.
On the expenditure side, there has been a strong bias towards infrastructure - both rural / agriculture and general. The former is encouraging when juxtaposed with the rural development programmes that have been enhanced for this year. These allocations, however, have been on for quite some time now and it is time for the government to actually assess in detail the efficacy of these allocations. An audit of these programmes would be seriously called for to assess whether these piecemeal allocations have really worked or not.
On the revenue side, Pranab Mukherjee has played a balancing game in trying to give a little everywhere with the focus on getting in some additional revenue. Individuals are better off in a way as they will pay less tax, though the gain is lower at higher levels. Certain tax saving schemes will benefit those with lower incomes.
Although there is nothing for corporates on the tax front, though there are sector specific benefits, there is an expected loss on direct taxes for the government.
The excise and service tax increases may be considered to be reversals from the time of the fiscal stimulus. But more importantly, we need to move faster to the goods and sales tax and direct taxes code so that the tax rates and collections are rationalised. But the fact that these indirect taxes have been increased is indicative that there could be some pressure on prices. More so since the rail freight rates have also been increased just before the Railways budget.
The fiscal deficit ratio is, of course, a concern. At 5.1%, it has been projected to be lower than that in FY12, but there are two issues here.
First, the number by itself is quite large at Rs5.1 lakh crore which has been the case in the last few years since FY09. This puts a lot of pressure on the liquidity in the system, and given that we could expect a revival in industry, there will be demand for funds from this end which has to be supported by the system. This may not have mattered in FY12, but could do so in the new financial.
Second, whether this number (5.1%) is credible enough. While the scaling down of the deficit ratio from 5.9% to 5.1% looks reasonable, there are some assumptions behind this number. We are assuming a stable global and domestic environment with some recovery in output. The joker in the pack would be oil prices because presently the Budget expects this subsidy to come down by around Rs25,000 crore. But, what happens in case crude oil price spikes due to the Iranian crisis?
Does the Budget actually meet the concerns of the economy? Growth is an assumption made in the budget and the fact that it talks of encouraging investment, it is possible to conclude that it is supporting growth. Inflation is an uncertain element here, which cannot be avoided considering that any kind of fiscal consolidation has to necessarily be done through additional taxation. The corporate sector does not get any direct benefits as such, as it is involved with higher customs and excise duties.
To the extent that the focus is on infrastructure, however, there is a positive there.Oil companies too would be better off hopefully. Public sector banks will be better capitalised while the capital market has something to cheer with the securities transaction tax being reduced. The Budget is silent on reforms though it talks a bit of what could be done on foreign direct investment in retail.
Maybe, nothing wrong here given that this may not be an objective of the Budget. Therefore, a little bit for everyone seems to be the ideology while hoping that the assumptions hold and the deficit is reined in.
Subsidy level to test reforms: Business Standard: 17th March 2012
The Budget does try to balance all the corners and the ultimate test will be whether or not the target of 5.1 per cent for the fiscal deficit will be achieved. The Budget is growth-oriented in a way as the expenditure is focused on infrastructure, agriculture and capital markets (to provide the funds). This will have to help bring about the 7.6 per cent growth in gross domestic product to support the revenue projections.
At the same time, obeisance is paid to the inclusive sectors. In doing so, there could be pressure on prices as indirect taxes have increased as have freight rates before the Railway Budget.
This, along with the higher borrowing programme, will pressure the Reserve Bank of India into taking a call on interest rates as liquidity in the system will come under strain as the private sector also competes for funds.
There have been attempts at bringing about reforms in subsidies, and the assumption that the fuel and fertiliser subsidy will decline this year will test the character of this reform.
At the same time, obeisance is paid to the inclusive sectors. In doing so, there could be pressure on prices as indirect taxes have increased as have freight rates before the Railway Budget.
This, along with the higher borrowing programme, will pressure the Reserve Bank of India into taking a call on interest rates as liquidity in the system will come under strain as the private sector also competes for funds.
There have been attempts at bringing about reforms in subsidies, and the assumption that the fuel and fertiliser subsidy will decline this year will test the character of this reform.
Book Review of Bimal Jalan's Emerging India: Business Standard: 16th March 2012
Yesterday, today and a little bit of tomorrow
Review of Bimal Jalan's book Emerging India: Economic Politics & Reforms
Bimal Jalan’s Emerging India is a journey through the last four decades or so across four sections and 25 chapters. The chapters are mostly lectures delivered in various forums and the views are more contextual at the time they were expressed. Jalan has served as an economist, central banker as well as a politician and has the right credentials to make his observations known in the course of this journey.
Although Jalan has been an astute and conservative central banker never given to belligerence either in action or in words, he is more forthright when commenting on the polity — even though he is politically correct in never taking names. This section is probably the best in the book. He praises India for having a democracy and freedom and traces the growth of the system through four phases, with the present one being framed with coalition parties, which is the crux of the country’s political problems.
He rightly points out that there has been a tendency for the role of Parliament to diminish over time and the bureaucracy to get politicised, factors that have hindered governance. The growth of regional parties and coalitions has blunted the accountability of governments, which have a limited time horizon in mind. Reforms evidently are required here. He gives examples about how the constitutional separation of powers of the legislature, the executive and the judiciary has been sidestepped, as was the case with Jharkhand.
It makes the reader smile when he talks about the multiplicity of administrative authorities — the ministry of education became the human resources development ministry which had various departments for education, culture, youth and women with further sub-divisions and commissions, thus multiplying functions when it was least required and leading to a heavy, inefficient administration. A curious observation made is that the country had grown despite a huge public sector and the best way to see the difference is to look at the white papers that have headlines of corruption, violence, law and order while the pink papers talk of profits, growth and mergers and acquisitions. The way forward is to lower the role of the public sector, lessen the administrative structures, control funding of political parties and increase the efficiency of the civil service.
The second section on India’s economic policy and prospects is a bit of déjà vu for the reader since the author advocates the need to open up the economy. His lectures in the two decades starting in 1991 had focused on two areas. The first is on opening the economy and getting integrated with the globalisation process. The other is improving the social conditions of the country where he talks of the role of science and technology with some vintage parallels drawn from the textbook as he advocated the Schumpeterian concepts of invention, innovation and diffusion. He laments that we have spent more on higher than primary education and on specialty hospitals than primary health centres — issues that are pertinent even today.
Part three covers quite extensively the banking space, which starts with a recollection of the Asian crisis and how we managed it through some conservative policies followed by the Reserve Bank of India (RBI). Though he sounds self-laudatory on occasion, he highlights some of the concerns at that time that are, quite ironically, also the issues that germinated the recent financial crisis — risk management, transparency, regulation and supervision, capital requirements and, most importantly, ethics. In a way, the RBI did display foresight in attempting to strengthen these inherent processes. The discussion on the virtues of a flexible exchange rate regime and caution against capital account convertibility, which distinguished India from the other Asian nations, has also been covered here.
Jalan finally does a round-up of economic reforms which actually were seen in the seventies through automatic licensing for imports and elimination of price controls which moved across diversification, delicensing, broad banding and so on. Although he is appreciative of the reforms that have happened so far, he is critical of the tardy pace of change in the public sector. While some of the points are now clichéd, there is novelty when he talks of the politics of reforms. He is confident that reforms will continue irrespective of the party in power as there is only one direction in which to go. Quite interestingly, he talks of a corruption multiplier, which is around four in India’s context — in terms of value of destruction due to incorrect choices that are motivated by greed.
How does one rate this book? Being reproductions of speeches has the disadvantage of lacking novelty. It would have been interesting to have had his present views added on the same subject. However, it still holds the reader’s interest because there are certain issues he had addressed, such as our social schemes or public sector, that are very relevant even today as we remain in the tyranny of their status quo.
Review of Bimal Jalan's book Emerging India: Economic Politics & Reforms
Bimal Jalan’s Emerging India is a journey through the last four decades or so across four sections and 25 chapters. The chapters are mostly lectures delivered in various forums and the views are more contextual at the time they were expressed. Jalan has served as an economist, central banker as well as a politician and has the right credentials to make his observations known in the course of this journey.
Although Jalan has been an astute and conservative central banker never given to belligerence either in action or in words, he is more forthright when commenting on the polity — even though he is politically correct in never taking names. This section is probably the best in the book. He praises India for having a democracy and freedom and traces the growth of the system through four phases, with the present one being framed with coalition parties, which is the crux of the country’s political problems.
He rightly points out that there has been a tendency for the role of Parliament to diminish over time and the bureaucracy to get politicised, factors that have hindered governance. The growth of regional parties and coalitions has blunted the accountability of governments, which have a limited time horizon in mind. Reforms evidently are required here. He gives examples about how the constitutional separation of powers of the legislature, the executive and the judiciary has been sidestepped, as was the case with Jharkhand.
It makes the reader smile when he talks about the multiplicity of administrative authorities — the ministry of education became the human resources development ministry which had various departments for education, culture, youth and women with further sub-divisions and commissions, thus multiplying functions when it was least required and leading to a heavy, inefficient administration. A curious observation made is that the country had grown despite a huge public sector and the best way to see the difference is to look at the white papers that have headlines of corruption, violence, law and order while the pink papers talk of profits, growth and mergers and acquisitions. The way forward is to lower the role of the public sector, lessen the administrative structures, control funding of political parties and increase the efficiency of the civil service.
The second section on India’s economic policy and prospects is a bit of déjà vu for the reader since the author advocates the need to open up the economy. His lectures in the two decades starting in 1991 had focused on two areas. The first is on opening the economy and getting integrated with the globalisation process. The other is improving the social conditions of the country where he talks of the role of science and technology with some vintage parallels drawn from the textbook as he advocated the Schumpeterian concepts of invention, innovation and diffusion. He laments that we have spent more on higher than primary education and on specialty hospitals than primary health centres — issues that are pertinent even today.
Part three covers quite extensively the banking space, which starts with a recollection of the Asian crisis and how we managed it through some conservative policies followed by the Reserve Bank of India (RBI). Though he sounds self-laudatory on occasion, he highlights some of the concerns at that time that are, quite ironically, also the issues that germinated the recent financial crisis — risk management, transparency, regulation and supervision, capital requirements and, most importantly, ethics. In a way, the RBI did display foresight in attempting to strengthen these inherent processes. The discussion on the virtues of a flexible exchange rate regime and caution against capital account convertibility, which distinguished India from the other Asian nations, has also been covered here.
Jalan finally does a round-up of economic reforms which actually were seen in the seventies through automatic licensing for imports and elimination of price controls which moved across diversification, delicensing, broad banding and so on. Although he is appreciative of the reforms that have happened so far, he is critical of the tardy pace of change in the public sector. While some of the points are now clichéd, there is novelty when he talks of the politics of reforms. He is confident that reforms will continue irrespective of the party in power as there is only one direction in which to go. Quite interestingly, he talks of a corruption multiplier, which is around four in India’s context — in terms of value of destruction due to incorrect choices that are motivated by greed.
How does one rate this book? Being reproductions of speeches has the disadvantage of lacking novelty. It would have been interesting to have had his present views added on the same subject. However, it still holds the reader’s interest because there are certain issues he had addressed, such as our social schemes or public sector, that are very relevant even today as we remain in the tyranny of their status quo.
Is it time to cut interest rates? Business Standard: 7th March 2012
While inflation is less of a worry than it was in, say, October 2011, monetary policy should take a futuristic view of expected inflation before releasing the pressure”
The present economic environment has a proclivity towards the penumbra of the economic canvas with the latest GDP and index of industrial production (IIP) numbers not really telling a happy story. While the industrial growth numbers will probably improve, we are still talking of a sub-seven per cent GDP growth rate. The worst is possibly behind us and, therefore, there is a case for discussing seriously what the Reserve Bank of India (RBI) should be doing when it announces its policy on March 15.
Should interest rates be lowered? On the face of it, there could be a case for doing so since growth in investment in particular has slowed — capital formation has come down to 30 per cent in Q3 FY12 from a high of 34 per cent in Q2 FY11. Evidently, few companies are borrowing expensive funds since profitability has been lowered on account of high interest cost. But the main purpose for RBI to raise interest rates was to address inflation. Although inflation has moved downwards from the double-digit level to a more tolerable 6.5 per cent in January, there are two considerations.
First, has inflation come to stay at a lower level? The answer is probably a shoulder shrug because prices are still high in all the three segments and it is more probable that the high base effect has statistically brought the numbers down. In fact, month-on-month indices have continued to show an increase for manufactured products, which broadly is the core inflation basket. Therefore, while inflation is less of a worry than it was in, say, October 2011, monetary policy should take a futuristic view of expected inflation before releasing the pressure.
This leads to the second consideration: are prices going to come down next year? The answer, again, is one of ambivalence because the oil crisis on account of Iran can escalate to greater levels and given that the potential is to add one to 1.5 per cent to inflation, RBI needs to tarry. Also, it has to take into consideration the policy stance of the Budget towards fuel subsidy before taking a call on final inflation and the pass-through mechanism. Therefore, lowering rates in March would be premature.
The cash reserve ratio (CRR) decision is easier to take since the market does not see it as monetary easing but as a liquidity supporting measure. The liquidity conditions are quite adverse and a ridiculously large amount is being borrowed from RBI at around Rs 1.7 lakh crore. Clearly the market has been distorted because interest rates should reflect liquidity shortage, which is not happening today. If there was a cap on repo borrowings to the desired extent of one per cent of deposits, there would have been excess borrowing of Rs 1 lakh crore in the call market that would have spooked up rates. This has been eschewed through the use of open market operations (OMO) by RBI to the extent of almost Rs 1.2 lakh crore this year. Therefore, even the text book will say that rates cannot be coming down when the supply of funds is lower than demand since there is little money around.
Earlier, a CRR cut would have been interpreted as being contradictory to the interest rate stance. But today, it is purely a supportive instrument. It will ease partly the liquidity crunch that will be exacerbated by the advance tax payments to be made during the second week of this month. One should recollect that aggressive OMO along with the earlier CRR cut of 50 basis points failed to assuage the liquidity situation, and quite clearly this has to be persevered.
Therefore, in an environment of stringent liquidity that actually should reflect in higher interest rates, and the fear of inflation lurking, a neutral stance on interest rates looks most logical. Rates are still, in effect, low today which would have been warranted by the market conditions. In this scenario it would be better to leave interest rates unchanged until such time as we are confident that inflation is down and liquidity ease to reflect this declining cost of capital.
The present economic environment has a proclivity towards the penumbra of the economic canvas with the latest GDP and index of industrial production (IIP) numbers not really telling a happy story. While the industrial growth numbers will probably improve, we are still talking of a sub-seven per cent GDP growth rate. The worst is possibly behind us and, therefore, there is a case for discussing seriously what the Reserve Bank of India (RBI) should be doing when it announces its policy on March 15.
Should interest rates be lowered? On the face of it, there could be a case for doing so since growth in investment in particular has slowed — capital formation has come down to 30 per cent in Q3 FY12 from a high of 34 per cent in Q2 FY11. Evidently, few companies are borrowing expensive funds since profitability has been lowered on account of high interest cost. But the main purpose for RBI to raise interest rates was to address inflation. Although inflation has moved downwards from the double-digit level to a more tolerable 6.5 per cent in January, there are two considerations.
First, has inflation come to stay at a lower level? The answer is probably a shoulder shrug because prices are still high in all the three segments and it is more probable that the high base effect has statistically brought the numbers down. In fact, month-on-month indices have continued to show an increase for manufactured products, which broadly is the core inflation basket. Therefore, while inflation is less of a worry than it was in, say, October 2011, monetary policy should take a futuristic view of expected inflation before releasing the pressure.
This leads to the second consideration: are prices going to come down next year? The answer, again, is one of ambivalence because the oil crisis on account of Iran can escalate to greater levels and given that the potential is to add one to 1.5 per cent to inflation, RBI needs to tarry. Also, it has to take into consideration the policy stance of the Budget towards fuel subsidy before taking a call on final inflation and the pass-through mechanism. Therefore, lowering rates in March would be premature.
The cash reserve ratio (CRR) decision is easier to take since the market does not see it as monetary easing but as a liquidity supporting measure. The liquidity conditions are quite adverse and a ridiculously large amount is being borrowed from RBI at around Rs 1.7 lakh crore. Clearly the market has been distorted because interest rates should reflect liquidity shortage, which is not happening today. If there was a cap on repo borrowings to the desired extent of one per cent of deposits, there would have been excess borrowing of Rs 1 lakh crore in the call market that would have spooked up rates. This has been eschewed through the use of open market operations (OMO) by RBI to the extent of almost Rs 1.2 lakh crore this year. Therefore, even the text book will say that rates cannot be coming down when the supply of funds is lower than demand since there is little money around.
Earlier, a CRR cut would have been interpreted as being contradictory to the interest rate stance. But today, it is purely a supportive instrument. It will ease partly the liquidity crunch that will be exacerbated by the advance tax payments to be made during the second week of this month. One should recollect that aggressive OMO along with the earlier CRR cut of 50 basis points failed to assuage the liquidity situation, and quite clearly this has to be persevered.
Therefore, in an environment of stringent liquidity that actually should reflect in higher interest rates, and the fear of inflation lurking, a neutral stance on interest rates looks most logical. Rates are still, in effect, low today which would have been warranted by the market conditions. In this scenario it would be better to leave interest rates unchanged until such time as we are confident that inflation is down and liquidity ease to reflect this declining cost of capital.
Saturday, March 10, 2012
Can we work from the revenue side? Financial Express: 10th March 2012
Whenever we talk of budgetary challenges, attention invariably turns to the expenditure side where we pontificate on whether the government should spend more on subsidies or project expenditure. This is so because, unlike individuals who have an income to spend, the government has a list of expenses, and has the prerogative to then see how this money can be raised. When all things fail, it can always borrow, which individuals cannot do. Should this thinking actually change?
Once we get into the FRBM framework, there is always pressure to perform and governments then walk the razor’s edge of balancing revenue with expenditure. Revenue generation is actually an extraneous concept because while the rates are fixed by the government, the assumptions made are on certain growth targets being realised. When they do not materialise, then problems start.
The main source of revenue is taxation. The ability to increase revenue depends on the taxable base increasing steadily, for if it does not, then the entire edifice stars cracking. Income tax, for example, showed an elasticity of 1.3 to growth in GDP in the last five years, meaning thereby that if our GDP in nominal terms grows by, say, 15% (sum of, say, 8.5% real GDP and 6.5% inflation), then income tax receipts could grow by 19.5%. Similarly, the elasticity of corporate tax collections is around 0.80 for the last 5 years while that of customs is 1.36 with respect to change in imports. Curiously, in FY09, when imports soared due to high imports of crude oil when prices had touched the $150 mark, the government reduced the tariffs sharply, which led to a fall in customs collections. Excise has not shown any clear trend, though low growth in industry has necessarily meant low collections. Quite clearly, the revenue collections for the government are, in a way, beyond its purview and the assumptions made could go awry.
Last year, the government based the budget on 9% GDP growth, which though in retrospect looked ambitious, seemed okay then as the economy had grown by 8.5% in FY11. Now that this has been scaled down to 7%, inflation has helped to maintain the growth in base. But the problem is that IIP growth has been lacklustre while corporate profits have shown signs of declining in the third quarter. Clearly, revenue has come under strain because the growth scenario has not materialised.
The point here is that the government should hence start off a different note and try and operate like an individual or corporate entity. As there is a move to manage public debt through the ministry and not RBI, the amount of borrowing should be capped with limited flexibility to deviate from this number. Alternative budget scenarios should be drawn up in terms of ‘conservative’ and ‘optimistic’ outcomes. The starting point hence for FY13 could be nominal GDP growth of 12% at a conservative level, including 7% real GDP and 5% inflation and, say, a higher number of 14%, which can go with IIP growth of, say, 6% and 8%, respectively. Revenue collections could then be drawn up on how various sectors including the service sector would behave during the year under these scenarios. The borrowing level could then be added here to have a feel of the maximum resources to be mobilised through conventional means.
The expenditure part is where the government would have to take a tough call. There are basically three kinds of expenditure. The first is mandatory, such as interest, over which there is no choice. The second is subsidy, where it should cap it on grounds that it will not spend more and, in case we are talking of fuel subsidy, the public has to bear the additional cost if global prices increase. The same holds for, say, food subsidy where the MSPs and issue prices are worked out with no flexibility for any further discussion once fixed. Intuitively, we are integrating the petroleum and agriculture ministries in this exercise. The third would be project expenditure, which is what is really required for growth. This would be a residual and will increase depending on the resources being garnered. Therefore, project expenditure becomes the last component and can actually be earmarked to, say, disinvestment. Disinvestment is a dicey component because it materialises only when the market does well. If it does not, then there is a reputation risk carried when it is undertaken. To eschew such controversy, the two may be linked.
Does this sound too simplistic? In fact, even today, the government invariably lowers project expenditure towards the end of the year once there are strains in terms of revenue collection. As interest, subsidies are non-negotiable; the onus does fall on capital expenditure. This model only makes an extension to capping all expenditures so that there are no slippages.
Do budgets work like this anywhere? The answer is no, but since we are in uncertain times when our macro projections have gone awry too often, we need to think differently. There could still be slippages on account of revenue falling in case the two scenarios we talk of do not materialise. But this will be an improvement. The downside is that the private sector has to play a larger role in investment and cannot really depend on the government for the big push. Is this acceptable?
Once we get into the FRBM framework, there is always pressure to perform and governments then walk the razor’s edge of balancing revenue with expenditure. Revenue generation is actually an extraneous concept because while the rates are fixed by the government, the assumptions made are on certain growth targets being realised. When they do not materialise, then problems start.
The main source of revenue is taxation. The ability to increase revenue depends on the taxable base increasing steadily, for if it does not, then the entire edifice stars cracking. Income tax, for example, showed an elasticity of 1.3 to growth in GDP in the last five years, meaning thereby that if our GDP in nominal terms grows by, say, 15% (sum of, say, 8.5% real GDP and 6.5% inflation), then income tax receipts could grow by 19.5%. Similarly, the elasticity of corporate tax collections is around 0.80 for the last 5 years while that of customs is 1.36 with respect to change in imports. Curiously, in FY09, when imports soared due to high imports of crude oil when prices had touched the $150 mark, the government reduced the tariffs sharply, which led to a fall in customs collections. Excise has not shown any clear trend, though low growth in industry has necessarily meant low collections. Quite clearly, the revenue collections for the government are, in a way, beyond its purview and the assumptions made could go awry.
Last year, the government based the budget on 9% GDP growth, which though in retrospect looked ambitious, seemed okay then as the economy had grown by 8.5% in FY11. Now that this has been scaled down to 7%, inflation has helped to maintain the growth in base. But the problem is that IIP growth has been lacklustre while corporate profits have shown signs of declining in the third quarter. Clearly, revenue has come under strain because the growth scenario has not materialised.
The point here is that the government should hence start off a different note and try and operate like an individual or corporate entity. As there is a move to manage public debt through the ministry and not RBI, the amount of borrowing should be capped with limited flexibility to deviate from this number. Alternative budget scenarios should be drawn up in terms of ‘conservative’ and ‘optimistic’ outcomes. The starting point hence for FY13 could be nominal GDP growth of 12% at a conservative level, including 7% real GDP and 5% inflation and, say, a higher number of 14%, which can go with IIP growth of, say, 6% and 8%, respectively. Revenue collections could then be drawn up on how various sectors including the service sector would behave during the year under these scenarios. The borrowing level could then be added here to have a feel of the maximum resources to be mobilised through conventional means.
The expenditure part is where the government would have to take a tough call. There are basically three kinds of expenditure. The first is mandatory, such as interest, over which there is no choice. The second is subsidy, where it should cap it on grounds that it will not spend more and, in case we are talking of fuel subsidy, the public has to bear the additional cost if global prices increase. The same holds for, say, food subsidy where the MSPs and issue prices are worked out with no flexibility for any further discussion once fixed. Intuitively, we are integrating the petroleum and agriculture ministries in this exercise. The third would be project expenditure, which is what is really required for growth. This would be a residual and will increase depending on the resources being garnered. Therefore, project expenditure becomes the last component and can actually be earmarked to, say, disinvestment. Disinvestment is a dicey component because it materialises only when the market does well. If it does not, then there is a reputation risk carried when it is undertaken. To eschew such controversy, the two may be linked.
Does this sound too simplistic? In fact, even today, the government invariably lowers project expenditure towards the end of the year once there are strains in terms of revenue collection. As interest, subsidies are non-negotiable; the onus does fall on capital expenditure. This model only makes an extension to capping all expenditures so that there are no slippages.
Do budgets work like this anywhere? The answer is no, but since we are in uncertain times when our macro projections have gone awry too often, we need to think differently. There could still be slippages on account of revenue falling in case the two scenarios we talk of do not materialise. But this will be an improvement. The downside is that the private sector has to play a larger role in investment and cannot really depend on the government for the big push. Is this acceptable?
Why not MFI Banks: Financial Express: 2nd March 2012
Are there alternative ways of addressing the MFI issue, considering that the new proposed guidelines for priority sector lending earmark 9% of credit for this segment? Everyone wants this segment to benefit, though we are not sure of the structures that have to be created or modified. The fact that banks do not do non-collateralised lending means that it is outside their purview or else they would have been there given their expansive branch network. The existing structure of MFI lending appears to be flawed in terms of the cost of credit for the MFIs that have pushed up the lending rates, which makes non-repayment attractive.
One thought here is that we can think of creating new banks that are dedicated to micro-lending. This addresses the issue of cost of funds for the MFIs, as once they are allowed to garner deposits, their cost of operations comes down and they are better positioned to lend at lower rates, which could improve repayment schedules. Today, they are not allowed to collect deposits, which pushes up the cost of funds as they borrow from reluctant banks that charge anywhere between 14-20%, given the risk. By allowing specialised MFI banks, we can leverage their expertise in terms of dealing with non-bankable public.
The structure for such banks can be that either an existing MFI becomes an MFI bank, or new MFI banks come into being. They should be allowed to operate only in the rural areas, and lending can be to only the lowest income class that is not covered by banks. The maximum amount of money that can be lent to an individual (R25,000) can be fixed along with tenure (1 year) and repayments (weekly, fortnightly, monthly). A rural credit bureau should be set up simultaneously as it will help to spread the word about the creditworthiness of borrowers. As the UID scheme works out, it becomes easy to integrate the same. These MFI banks would need to bring in a minimum amount of capital; and to start with R200 crore that, with a capital adequacy norm of 12%, will enable lending of around R1,600 crore.
On the liability side, these banks should be allowed to raise deposits from the public and offer rates that could probably be lower than what a bank gives with fewer restrictions such as minimum account size and withdrawals. By allowing access to deposits, we can cap the lending rate in a manner that makes it less usurious and at the same time profitable. There should be the CRR and SLR norms too so that the integrity of the system is maintained. Lending, however, could be only micro-credit. The SLR will ensure that banks actually earn some revenue from these investments, and as they mature could be allowed to trade in GSecs. Therefore, with pre-emption of, say, 30%, the balance can be used for lending purposes. It will resemble crudely the concept of a narrow bank that focuses on micro-lending and investments.
Capital infusion will be important and there are two options. The first is to have new players who satisfy a financial and expertise criteria or we could have an existing MFI becoming an MFI bank. This can be either by the MFI going public or choosing to be bought by a bank owned by corporate entity. The latter option is of interest here. Banks generally do micro-credit lending indirectly and could use such subsidiaries to run these operations. With their financial strength, these models become scalable. Banks who acquire and run such outfits could further be incentivised by allowing them to include such lending which is indirect as priority sector lending, much like the way that it is being done through the NBFC route.
The entry of corporates is another option for an existing player. Companies such as ITC, Godrej, Mahindra & Mahindra, Amul, HLL, etc, have done a lot in the rural space in terms of integrating their operations at the grassroots. Owning an MFI bank would fit in with their business models as it strengthens their own base in these geographies. In terms of the borrowers, they get a complete solution once they start borrowing from an MFI bank, which simultaneously leads to access to other facilities like deposits and creates a new culture that can later be linked with other financial products such as insurance.
To make these models cost-effective, one will have to leverage technology, and while a brick-and-mortar structure is essential to inspire confidence to the populace, operations should be linked by technology so that costs are reduced. The use of local staff with strong local knowledge will be helpful for screening loan applications.
There is evidently need for us to do something more definite in the micro-credit space. The existing models worked well before running into barriers and the creation of new banks may just be the solution. Currently, securitisation of their loans appears to be taking off, which means that we are integrating this concept with commercial banking. The last mile becomes that much closer once we establish these specialised banks with strong regulatory control.
One thought here is that we can think of creating new banks that are dedicated to micro-lending. This addresses the issue of cost of funds for the MFIs, as once they are allowed to garner deposits, their cost of operations comes down and they are better positioned to lend at lower rates, which could improve repayment schedules. Today, they are not allowed to collect deposits, which pushes up the cost of funds as they borrow from reluctant banks that charge anywhere between 14-20%, given the risk. By allowing specialised MFI banks, we can leverage their expertise in terms of dealing with non-bankable public.
The structure for such banks can be that either an existing MFI becomes an MFI bank, or new MFI banks come into being. They should be allowed to operate only in the rural areas, and lending can be to only the lowest income class that is not covered by banks. The maximum amount of money that can be lent to an individual (R25,000) can be fixed along with tenure (1 year) and repayments (weekly, fortnightly, monthly). A rural credit bureau should be set up simultaneously as it will help to spread the word about the creditworthiness of borrowers. As the UID scheme works out, it becomes easy to integrate the same. These MFI banks would need to bring in a minimum amount of capital; and to start with R200 crore that, with a capital adequacy norm of 12%, will enable lending of around R1,600 crore.
On the liability side, these banks should be allowed to raise deposits from the public and offer rates that could probably be lower than what a bank gives with fewer restrictions such as minimum account size and withdrawals. By allowing access to deposits, we can cap the lending rate in a manner that makes it less usurious and at the same time profitable. There should be the CRR and SLR norms too so that the integrity of the system is maintained. Lending, however, could be only micro-credit. The SLR will ensure that banks actually earn some revenue from these investments, and as they mature could be allowed to trade in GSecs. Therefore, with pre-emption of, say, 30%, the balance can be used for lending purposes. It will resemble crudely the concept of a narrow bank that focuses on micro-lending and investments.
Capital infusion will be important and there are two options. The first is to have new players who satisfy a financial and expertise criteria or we could have an existing MFI becoming an MFI bank. This can be either by the MFI going public or choosing to be bought by a bank owned by corporate entity. The latter option is of interest here. Banks generally do micro-credit lending indirectly and could use such subsidiaries to run these operations. With their financial strength, these models become scalable. Banks who acquire and run such outfits could further be incentivised by allowing them to include such lending which is indirect as priority sector lending, much like the way that it is being done through the NBFC route.
The entry of corporates is another option for an existing player. Companies such as ITC, Godrej, Mahindra & Mahindra, Amul, HLL, etc, have done a lot in the rural space in terms of integrating their operations at the grassroots. Owning an MFI bank would fit in with their business models as it strengthens their own base in these geographies. In terms of the borrowers, they get a complete solution once they start borrowing from an MFI bank, which simultaneously leads to access to other facilities like deposits and creates a new culture that can later be linked with other financial products such as insurance.
To make these models cost-effective, one will have to leverage technology, and while a brick-and-mortar structure is essential to inspire confidence to the populace, operations should be linked by technology so that costs are reduced. The use of local staff with strong local knowledge will be helpful for screening loan applications.
There is evidently need for us to do something more definite in the micro-credit space. The existing models worked well before running into barriers and the creation of new banks may just be the solution. Currently, securitisation of their loans appears to be taking off, which means that we are integrating this concept with commercial banking. The last mile becomes that much closer once we establish these specialised banks with strong regulatory control.
Book review of : Transforming Capitalism: Business World 20th Feb 2012
For The People, Too
A collection of Arun Maira's previous writings, the book emphasises how the capitalist growth model must have a human face to be meaningful
Despite being an anthology of articles written over years, Arun Maira’s Transforming Capitalism is sheer brilliance. It is straight from the heart, and tells us that the capitalist growth model must have a human face to be meaningful. Maira, a member of the Planning Commission, demolishes several excuses for the existing inequality in the model of economic Darwinism. He questions nine myths. Here are some of them. We cannot grow the pie and wait for the trickle down effects to take place, saya Maira. The poor have to be taken along in the growth process. Also, saying the poor should try harder is a feeble statement given that initial conditions are different for them. And we cannot leave it to the private sector to address inequality.
The business of business cannot be only business, says Maira, as there are repercussions to be faced. We see this today in terms of hostility to private sector expansion. The approach of ‘just do it’ cannot be viewed in isolation and we need to take society with us. Finally, it cannot be just the left or right view, or being or not being with a principle, it has to be somewhere in between.
The capitalist has to think of the other party as a citizen and not just a consumer. We need to think of this citizen as not just having access to the product, but also owning it. This is really a cogent way of putting it. And that take is one of the reasons for saying this book should be read by every CEO. Even if 10 per cent of them act on Maira’s lines, our society will be better off.
A collection of Arun Maira's previous writings, the book emphasises how the capitalist growth model must have a human face to be meaningful
Despite being an anthology of articles written over years, Arun Maira’s Transforming Capitalism is sheer brilliance. It is straight from the heart, and tells us that the capitalist growth model must have a human face to be meaningful. Maira, a member of the Planning Commission, demolishes several excuses for the existing inequality in the model of economic Darwinism. He questions nine myths. Here are some of them. We cannot grow the pie and wait for the trickle down effects to take place, saya Maira. The poor have to be taken along in the growth process. Also, saying the poor should try harder is a feeble statement given that initial conditions are different for them. And we cannot leave it to the private sector to address inequality.
The business of business cannot be only business, says Maira, as there are repercussions to be faced. We see this today in terms of hostility to private sector expansion. The approach of ‘just do it’ cannot be viewed in isolation and we need to take society with us. Finally, it cannot be just the left or right view, or being or not being with a principle, it has to be somewhere in between.
The capitalist has to think of the other party as a citizen and not just a consumer. We need to think of this citizen as not just having access to the product, but also owning it. This is really a cogent way of putting it. And that take is one of the reasons for saying this book should be read by every CEO. Even if 10 per cent of them act on Maira’s lines, our society will be better off.
Growth, Sustainability and India's Economic Reforms: Book review in Business World 20th Feb 2012
Growth, Sustainability, And India’s Economic Reforms
By T.N. Srinivasan
Oxford Univesrity Press India
T.N. Srinivasan’s contribution to economics has been remarkable. And this book, a collection of four of his talks, reflects his key arguments. Tracing the progress of the economy over the past six decades, the book is a good commentary of how our doctrines evolved in tune with the times. Evidently, Srinivasan is against the controlled system of economic governance and supports reforms, which he feels is what we should be working on in future to move ahead. While the first phase of the economy (1950-80) was one of control typified by the licence raj, the second (1980-92) was of profligacy. But this was when the first seeds of liberalisation were sown. The third, 1992-2008, is Srinivasan’s favourite, where India moved towards consolidation and growth numbers were impressive until the financial crisis hit. This was the time for unshackling the economy. More importantly, it showed a lot of political will among all ruling parties.
The book also carries interesting commentaries from economists M. Narasimham, Y.V. Reddy, Sankar De and Rakesh Mohan. Mohan does not share the author’s view that ours was a “bullock-cart system” and uses his own experiences at the RBI to refute this thought. This adds interest in reading as the views are not always in agreement with the author’s.
By T.N. Srinivasan
Oxford Univesrity Press India
T.N. Srinivasan’s contribution to economics has been remarkable. And this book, a collection of four of his talks, reflects his key arguments. Tracing the progress of the economy over the past six decades, the book is a good commentary of how our doctrines evolved in tune with the times. Evidently, Srinivasan is against the controlled system of economic governance and supports reforms, which he feels is what we should be working on in future to move ahead. While the first phase of the economy (1950-80) was one of control typified by the licence raj, the second (1980-92) was of profligacy. But this was when the first seeds of liberalisation were sown. The third, 1992-2008, is Srinivasan’s favourite, where India moved towards consolidation and growth numbers were impressive until the financial crisis hit. This was the time for unshackling the economy. More importantly, it showed a lot of political will among all ruling parties.
The book also carries interesting commentaries from economists M. Narasimham, Y.V. Reddy, Sankar De and Rakesh Mohan. Mohan does not share the author’s view that ours was a “bullock-cart system” and uses his own experiences at the RBI to refute this thought. This adds interest in reading as the views are not always in agreement with the author’s.
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