India: Budget 2003-04 – Soft Peddling For A Hard Landing

2003

D Tripati Rao

Given the difficult times of continued sluggishness in the domestic economy in conjunction with global slowdown brought about by the uncertainty in the lead-up to the war on Iraq, it demanded a great deal of craftsmanship to prepare a growth-augmenting budget. This budget (announced 28 February) has been applauded by a cross-section of opinion makers - more so by the industrial fraternity, who have described it variously as, 'growth-oriented', 'middle-class appeasing', 'a stimulant to industry', 'infrastructure-oriented', and so on. The general opinion, though, is that it is a ‘soft-peddled’ budget. Significantly, there has not been an immediate rally by the capital market as in previous years, despite the budgetary attempt to inject a ‘feel good’ factor. This is partly due to the finance ministry's ploy both to elicit politico-economic opinion beforehand and to try to bring the public to terms with the economic realities in India. With the mid-year economic review presentation, both the interim and the final Kelkar Report, which drew vociferous public debate and took a few steps towards making the budgetary process transparent, excitement over the actual budget was much reduced. Now the moot questions continue to be: Did the budget really address the imperatives of the Indian economy? Is the Indian economy poised not only to recover from slowdown, but to also attain higher growth as a result of the budgetary incentives? In addition, what will be the income distribution effects flowing from the budget? This is important against the backdrop of continued stagnation in employment absorption and the impact of severe drought.

For the last few years, private consumption growth has been a significant factor in GDP growth. Reflecting a contra-cyclical fiscal policy stance, the budget mainly relies on consumption-led growth. Various tax measures - lowering tax rates, raising standard deductions, and retaining various tax concessions and exemptions through fiscal concessions - attempt to induce consumer spending. It is one thing, however, to argue that boosting consumption demand through tax concessions will maintain current levels of GDP growth, but it would be entirely wrong to argue that it will result in a sustained increase in GDP growth to levels of 8 per cent growth and beyond. The observed high correlation between private consumption and GDP growth is due, in fact, to the investment slowdown. Since 1996-97, a combination of real-cum-monetary factors emanating from both the domestic and external environment (including high interest rates and high fiscal deficit, excess capacity creation and inventory accumulation, the Asian Financial crisis and global financial slowdown, the fallout from the nuclear testing and subsequent sanctions, natural calamities and agricultural shortfalls, a rise in uncertainty and risk, volatile asset prices, and a failure to push through critical structural reforms) set the tone for a pessimistic ‘expectation-driven syndrome’. Firms have been postponing fresh investment activities, as is reflected by an almost dead IPO (Initial Public Offering) market together with dwindling non-food credit growth. Against this backdrop, the assumption that consumer demand alone will push up investment demand does not look so robust. The economy is riddled with lack of effective demand as well as supply shocks, and finds itself in the midst of cyclical-cum-structural slowdown. Thus, policies merely targeting consumption (with the implicit presumption that it will in turn raise long-term investment activity) will stop short of achieving the objective. Trade and tax policies merely facilitate allocation of existing resources, whereas Keynesian anti-cyclical policy fundamentally aims at stimulating private investment behaviour through public investment in infrastructure, health and education. It is one thing to fuel consumption demand for excess capacity utilization, but a sustained growth policy must create conditions for additional capacity creation. For this, structural reforms are critical requirements.

On the whole, with the budget following a ‘hands off’ attitude in crucial growth and development-oriented sectors, tax concessions are offered mainly on consumer durables and luxury goods to appease the middle and upper classes. Therefore, Budget 2003-04 has turned out to be yet another short-sighted fiscal policy replete with popular appeasement, ad-hoc tokenism and gross fiscal maladjustment. Simply, however grandiose they may have been, the budget's fiscal initiatives gamble on growth.

WATCHPOINT: The government's spending on investment infrastructure will be crucial as also its ability to draw the private sector into financing infrastructure.

 

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