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Posted by: Deepa Vasudevan on Sat, Feb 4th, 2017

Digging into the Data: How Cautious is the Union Budget?

This is not an easy time for the economy: the shock effects of demonetization still linger, yet the country has to gear up for the Goods and Services Tax later this year. Wisely, the Finance Minister decided to deliver a cautious budget that balances sops for the sectors most hurt by demonetization with prudent expenditure management. Markets have reacted very positively to the budget: the BSE Sensex posted its highest-ever post-budget rally.  Industry is happy about the growth stimulus to FMCG, housing, consumer durables, transport and infrastructure sectors. Household spending power is likely to be boosted by the cut in income tax rates. And the country as a whole will benefit from the push to digital payments and the first-ever measures to clean up political funding.

Table 1 shows the actual numbers for 2015-16, the revised estimates for 2016-17, and the budgeted estimates for 2017-18. The table is dense with figures, but it is sufficient to focus on the highlighted bits (marked in red with small icons showing our assessment of that item!).

Table 1: Analysis of Budget Data

Table 1: Analysis of Budget Data

Source: Union Budget Documents, Several Years

We say this budget is conservative because total expenditure has increased by only 6.6% over last year (last row); for a country of India’s size, that is a very modest increase in total budget size[1].  Further, the government has realistically projected a 30% decline from spectrum fees since no auctions are anticipated in 2017-18.   Both these projections are reasonable and grounded. The only worrying item on the expenditure side is the budgeted decline in fuel subsidies. LPG subsidies declined by a stunning 18% in 2016-17, as many households voluntarily gave-up subsidized LPG cylinders and the government stepped up direct benefit transfers to poor households. This trend is expected to continue in 2017-18. But it is doubtful whether reforms in kerosene subsidies (for e.g Aadhar seeding) will cut kerosene subsidies by half in the next year.  Second, in 2016-17, as oil prices fell, the government smartly levied additional excise duties on petrol to boost its revenues without greatly inflating the final pump price.  In 2017-18, with oil prices set to increase[2]; the government will have to choose between retaining the additional excise duties and pushing up final prices, or cutting the excise duties and foregoing some tax revenues. Either way, it will be a tough call. And going back to administered petrol prices is not an option. No cushion has been provided for this eventuality.

On the receipts side, though total revenue is budgeted to increase modestly by 8.1%; the projections for two revenue items appear to overambitious: income tax and disinvestment. Income tax collections are budgeted to increase by 25% in 2017-18, on top of a 22% rise this fiscal. The government seems to have been encouraged by the jump in income tax revenues that pushed the tax-GDP ratio[3] over 11% for the first time in 2016-17. Accordingly, a tax-GDP ratio of 11.3% is budgeted for 2017-18. However, Indians  have a poor record in paying income tax; it is known that in 2015-16, only 24 lakh individual assesses showed incomes higher than Rs.10 lakh, but  1.25 crore cars were sold, and more than 2 crore people travelled abroad for work or pleasure! It is not clear how tax non-compliance of this magnitude will be transformed in a single year.  Clearly, the government believes that demonetization will increase the tax net by increasing the size of the organized sector; and the budget announcements will enable a growth revival and thereby spur tax payments.  There are many uncertainties along the way: GST implementation, the 2017 monsoon, the outcome of the rabi harvest and its impact on food prices, the rise of US interest rates and its impact on foreign inflows- any of these events can block the projected revival and ruin the budget’s tax calculations.

The second questionable item is the 59% rise budgeted in disinvestment proceeds. The government hopes to generate Rs.72,500 crore through stake sales in state-owned insurance companies, listing of railway PSEs  on stock exchanges, and the launch of a new ETF vehicle with diversified PSE stocks.  Based on past records, this is not likely to be achieved; in 2016-17, disinvestment receipts fell short of the budgeted amount by about 20%. Fortunately, there is a cushion available under ‘dividends and profits from PSUs’, which can be under-budgeted and over-milked if necessary. In other words, the shortfall from disinvestment can be made up by drawing down unspent profits of government owned enterprises.

To sum up, despite its restrained stance, there are a few projections in the budget that could potentially fall short of expectations; but there is also some cushion available to weather a few shortfalls. The final outcome will depend on the response of households and industry to the stimuli offered by the budget; and on how external events unfold through the year.  As always, budgets are supposed to be grounded in reality but are largely based on hope!

[1] Just to put that in perspective, nominal GDP is expected to grow by 11.75% in 2017-18.

[2] The budget has worked with an international crude price of $65-$70 per barrel. At levels above this, shale production is likely to kick in and suppress global prices. However, as the Economic Survey 2016-17 points out, that even a price of $65/bbl can hurt the current account deficit, inflation and overall macro stability.

[3] Tax-GDP ratio= Gross tax revenues/GDP

Nanjundaiya Ramesh Kumar on Mon, Feb 6th, 2017 12:11:48 pm

The recent budget presented by the Indian Finance Minister showed a fine balancing act to satisfy all sections of the society. The Finance Minister's mantra is to stimulate growth by increasing spending. The inward flow of funds to the banking sector due to demonetization will be the catalyst for fueling growth for the SME's as well as the middle class for which due small relief has been provided in taxes. The budget will also work towards providing affordable housing to the poor as well as improve the general infrastructure at connecting small towns and villages, increased communication and connectivity as they did suffer short time due to demonetisation. By this way, one could also notice that measures are being taken to bring fiscal discipline thereby keeping inflation under control and easing the pain of doing business. At the same time, there is tremendous education going on a pan India basis to the population to undertake financial transaction via technology and mobile application and reduce dependency on cash for business transactions. This is a forward looking proposition and the budget has laid out strong emphasis to revive the growth in rural economy, which in turn will be reflected in the overall GDP. The budget has also taken measures for reviving the capital expenditure in order to kick start the investment cycle. Another new and a landmark funding reform was the announcement of the mechanism pertaining to Cash donations to Indian political parties which will be capped at 2,000 rupees along with larger donations to be made via cheque via "electoral bonds" under RBI. On the whole, the various steps taken by the budget will revive the GDP growth of Indian economy and fuel consumerism.

Krishna Sreedhara Shenoy on Sun, Feb 5th, 2017 6:49:25 pm

Very useful , narrative and thought provoking blog

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