The economy will undoubtedly be the topmost concern of the new government. The 2014-15 Budget will be first signal to the world regarding the government’s resolve to deal with the economy.
The new finance minister has his work cut out. We have been chasing—and will continue to chase for some time—objectives that cannot be easily reconciled with each other. For growth rates to pick up, investment— public as well as private, domestic and foreign—has to increase. Increase in public investment will be contingent on more capital expenditure. Private investment will grow if share values continue to show secular growth and this again would depend, in the long run, on the profitability of investment. Factors like interest rate, labour costs and policies towards foreign investment, both direct and portfolio, would have an important bearing on inflows of private investment. Share values have jumped in anticipation of policy initiatives, but there could be a correction if the package delivered is less than what is expected.
The previous government’s strategy—and by and large, that of the Reserve Bank—was to try and contain inflation and keep the fiscal and current account deficit down, regardless of implications in respect of investment. Thus, public investment, represented by the Plan, was cut by about `90,000 crore in 2012-13 as well as in 2013-14. Monetary policy was aimed at curbing inflation through successive increases in repo and reverse repo rates and there are clear indications that inflation targets would remain the first priority of the RBI. The fiscal deficit, too, was sought to be brought down by reductions on the Plan, rather than Non-Plan side.
The finance minister’s team will, therefore, have to work out their priorities. During the economic crisis of 2008-09, the government’s immediate reaction was to kick-start the economy. The stimulus packages aimed at increased public investment, support to industrial sectors in decline and creating a generally conducive environment for private investment through monetary and fiscal policy. It was noteworthy that the government and the RBI worked in tandem to deal with the situation in a cohesive manner. Even the Election Commission, during the course of the 2009 polls, took care to ensure economic revival was never constrained in any way.
Strangely, the growth-versus-inflation conundrum never posed a problem in handling the crisis. In fact, while India once again entered the path of high growth, inflation actually went down. I recall that for some time the wholesale price index actually entered negative territory. India was also the first major country to step out of the crisis, which was one of the factors that influenced the outcome of the 2009 elections.
Today, we have a similar problem and the finance minister is left with the task of either continuing with present policies or making significant changes, which will involve a certain amount of risk. The economy is expecting change and seems to be reacting—perhaps over-reacting—in anticipation of change. There’s no guarantee that what worked in 2008-09 will necessarily work now. The first challenge will be to decide his position vis-à-vis fiscal deficit. Is he going to adhere to the projected 4.1% or let fiscal deficit figures take the back seat for a couple of years until the economy settles into a high growth trajectory? Allowing more flexibility in respect of fiscal deficit will give room for more public investment that would stimulate certain sectors notably infrastructure, which will have a considerable multiplier effect on the rest of the economy. The alternative to a higher fiscal deficit, to my mind, lies in sharp cuts in subsidies in petroleum products, in fertilisers, in foodgrains. I do not visualise sharp cuts in subsidies in the short run, even though it could be a medium-to-long term objective. Allowing fiscal deficit to soar, of course, could adversely affect our international rating, now precariously placed at BBB(-). However, I note that the economist, Arvind Panagariya, has said he sees no harm in a 4.5% fiscal deficit.
Combined with public investment, the expectation is that there will be a host of measures that will support investment of all kinds of domestic, foreign direct and foreign portfolio. This is one area in which the ministry of finance has to work closely with RBI and SEBI so that all can introduce mutually reinforcing measures.
On inflation, the issue is primarily one of supply management at a time when effective demand has grown, particularly in rural areas, and supply has failed to keep pace with it. Logically, the solution would lie in a medium-to-long-term programme to promote production in the agricultural sector and manufacturing in the industrial sector. Meanwhile, the poorer strata would need protection. This can be achieved by a joint Centre-state programme to supply select commodities at affordable prices to the indigent. Such a distribution programme should not be confined to foodgrains; it must extend to some other products of daily consumption of the poor. Many states have already adopted such programmes on their own through consumer co-operatives and civil supplies corporations. A helping hand from the Centre would further strengthen this mechanism.
My last point relates to Centre-state financial relations. The PM reiterated the point in many of his pre-election speeches, based on his own experience as chief minister. We need to now review the entire structure of central plan resources and their allocation. Over the years, the share of states in total plan finances has progressively dwindled as central ministries have invented more and more centrally-sponsored schemes. It is now necessary to think of a massive restructuring with more funds being released to the states. The Centre’s role should be confined more to laying down physical targets in line with national objectives. This, too, should be done in dialogue with the states. The states which are yet to achieve minimum standards of social welfare should be encouraged to achieve them. Other states, which have achieved, even surpassed these minimum standards in different areas, should be encouraged to progress further so that they achieve global standards. An MoU system (as in the case of public sector enterprises and the recently introduced results framework document system in central ministries and some state governments) could be considered in place of the planning exercise. Incidentally, this would help to downsize the central government and provide more officers for work in the states which presently suffer from serious manpower shortages of middle-level and senior officers.
The writer is vice-chairman, Kerala State Planning Board, and can be reached at kmchandrasekhar@gmail.com