Examining budgetary health during the pandemic

Empirical evidence suggests that the two episodes associated with macroeconomic vulnerability in India were those preceded by expansionary fiscal policies

Published: 16th January 2021 07:18 AM  |   Last Updated: 16th January 2021 07:18 AM   |  A+A-

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In just over two weeks from now, India will have its Budget amidst unprecedented times. The GDP is expected to contract by -7.7% in Fiscal 2021, thanks to a revival in economic activity in the second quarter as also a decline in the Covid load. With the private sector responding to demand originating during the festive season with an uptick in industrial activity and the virus ‘behaving’ itself, the government is expected to provide the much-needed fillip to a virus-ravaged economy through a big push. No prizes for guessing then: Budget 2021 will be about government expenditure as a means of driving higher growth in the economy!

Government’s role during a recession: 
The argument that the government should step in to pull an economy out of recession harks back to Lord John Maynard Keynes, the British economist who famously advocated ‘digging pits’ and ‘filling them up’ (essentially, government supporting cheap public works programmes), as the panacea to get the economy out of the 1929 depression. A Keynesian policy prescription thus revolves around a countercyclical fiscal policy during a recession. Such policies could indeed help avert/reverse the collapse in the aggregate demand of the type that has occurred in India due to the pandemic-induced recession.

In fact, the last few years have witnessed a paradigm shift in the role of fiscal policy in advanced countries, where monetary policy has run into a wall as a means of achieving macroeconomic objectives. The latter has been due to the presence of zero lower bounds and monetary easing having run its course in such economies. The result has been a rise in fiscal activism, with countercyclical fiscal policy seen as the antidote to weak economic activity. India, on the contrary, has so far chosen to follow the path of fiscal prudence, as contained in its Fiscal Responsibility and Budget Management Act (FRBM), even if it may not always have met all the conditions laid down under it.

Examining Budgetary ‘health’: 
Government spending can be either on revenue or capital expenditure items. While theoretically the latter refers to productive expenditure and the former refers to unproductive and current expenditure, it is revenue expenditure, such as subsidies, pensions, etc., that are politically expedient, and as such sticky.

Government spending on the capital account in India has been a small fraction of overall spending. For instance, the Union Budget 2020-2021 had 86% of expenditure allocated to the revenue account. Of this, a large part of the expenditure tends to be on interest payments. Picture this: 23% of the government’s spending was budgeted to be on interest payments in the last fiscal, as opposed to only 13.5% on the capital account.

The expenditure on healthcare and health infrastructure is expected to increase, especially against the backdrop of the massive vaccination drive being launched to tackle Covid-19.  Estimates suggest that the cost of the first round of the vaccination, targeted towards frontline health workers and the vulnerable population, alone would work out to $1.4-1.8 billion. Besides the vaccination drive, the Budget is expected to address and increase government spending on primary healthcare infrastructure, digitisation of health services and financial incentives to manufacturers of Active Pharmaceutical Ingredients (API) to ensure the availability of raw materials for drug manufacturers.

With health being a state subject, the spending on it in Budget 2020-21 was budgeted to be a miniscule 0.3% of Gross Domestic Product (GDP). State spending on health is also low—only 4.7% of their GDP is on health currently. This will have to rise to at least 8%, as pointed out by a high-level group constituted to examine the health sector in early 2020. Another area that would require massive government intervention would be education.

The National Education Policy (NEP) 2020 has set an ambitious target of 6% for public investment in the education sector to be achieved at the earliest. Currently, the combined expenditure of the Centre and states on education is 3.1% of GDP, with Budget 2020-21 allocating a meagre 0.4% of GDP to it.
As India prepares to spend 2.5% of its GDP on healthcare as per the targets laid down under the National Health Policy 2017 and attempts to fulfil the conditions required in the NEP 2020, the moot question is: How will such change in expenditure take place, given the past philosophy and trends in government expenditure patterns? And more importantly, where will the government raise the resources for such spends?

While such spends on health and education are much needed, with the pandemic having revealed India’s vulnerability in these two critical areas, the government can ill-afford to take its eyes off the revenue side. Financing these requirements will need a holistic policy rethink, with broader-based taxation and plugging loopholes in the current tax system. Empirical evidence suggests that the two episodes associated with macroeconomic vulnerability in India were those preceded by expansionary fiscal policies. Even as the drive towards health and education spending gains momentum, the government’s own budgetary health will need to be given prime importance.

(Views are personal)
TULSI  JAYAKUMAR  (Tulsi.Jayakumar@spjimr.org)

Professor of Economics at Bhavan’s SPJIMR, Mumbai


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