GDP SYNDROME & FISCAL DEFICIT PHOBIA

BUDGET – 2011

The important positive point of the current year Budget was claimed to be the control achieved over the fiscal deficit as a percentage of GDP. THIS WAS CLAIMED TO BE A MAJOR ACHIEVEMENT BY ALL ECONOMIC NEWS PAPERS AND NEWS CHANNELS. As an economics student, out of curiosity, I studied the budget in detail to find out the magic wand of the Hon. Finance Minister which made it possible for him to reduce the Fiscal Deficit in spite of increase in budgeted expenses. I am shocked to say that the reduction in the percentage of fiscal deficit to GDP was on account of very high inflation in the last few years. It is all because of how we estimate the GDP.

As an economics student I have studied that ‘GDP of a country is always estimated in current price as well as at constant price’. When it is computed in current price it is named as nominal GDP and when calculated under constant price it is known as real GDP. In the nominal GDP computation of the value of goods and services produced during the year are aggregated at current prices which always include the current inflationary effect also. Since during last year our country is facing run away inflationary situation, the nominal value of GDP is also expressed at high value. This fact has been admitted by the government document itself namely “The Medium Term Fiscal Policy Statement” annexed to the budget. This statement states that “higher nominal growth in GDP – which is just due to inflation- has helped in reducing the fiscal deficit.” Let me go on to explain this from the figures in budget itself.

In his budget speech itself Hon. Finance Minister has claimed that he has increased his spending but reduced the fiscal deficit. This is possible if revenue has increased as compared to the estimate more than his increased spending. But unfortunately the truth lies elsewhere. As per Budget Estimate of 2010-2011 [last year budget] the fiscal deficit was estimated at Rs.3.81 Lakh Crores which is 5.5% of GDP of Rs.69.35 Lakhs Crores estimated by CSP at 2010-11 prices at that time. Thanks to inflation, the GDP at current prices has gone up to Rs.78.78Lakhs Crores, showing an increase of Rs.9.57 Lakhs Crores. This has resulted in reduction in percentage of fiscal deficit to GDP as the denominator in this fraction has increased substantially. Thus, an absolute increase in actual fiscal deficit from estimated level of Rs.3.80 Lakhs Crores to Rs.4.01Lakhs Crores was shown as reduction in percentage of fiscal deficit to GDP from 5.5 % to 5.1%. In reality the Revised Estimate of fiscal deficit for 2010-11 is increased from 5.5% to 5.8% and not reduced to 5.1%, if we take out the effect of inflation and value the GDP at the same price level of estimate made at the time of 2010-2011 budget. Since inflation escalates prices and consequently the nominal GDP, in a year of high inflation the ratio of Fiscal Deficit to GDP will always be lower. It is not a “fiscal consolidation” as claimed by many.

If we look in to the figures of real and nominal GDP for the last five years we can see the widening gap between the two due to inflation over the years. While this gap in 2005-06 was 9.1%, in 2010-11 it has reached an all time high of 38% resulting in an increase in GDP figure by Rs.30 Lakh Crores. If we recalculate the nominal GDP of 2010-2011 at 2005-2006 prices [Real GDP at 2005-06 prices] the ratio of fiscal deficit to real GDP would be 21% .[extract from the article in “The Hindu dated 02-03-2011 by Sri.S.Gurumurthy]

Normally by growth in GDP we expect increase in production and services which must increase the collection of Excise and Customs duties. But curiously, as per Economic Survey 2010-11 presented, the share of these duties to the nominal GDP has come down to 1.7% in 2010-11 from 3% in 2005-2006. Most of the duty cuts announced to stimulate our economy and to save it from the global meltdown has only helped the corporate to make super profit in this period as they have not passed on the benefit or concession of these duties to the consumers. This is also established from the budget it self from the statement of revenue foregone. As per this statement the corporate sector has improved their profit from Rs.4.08 Lakh Crores in 2005-06 to Rs.8.24 Lakh in 2009-10. Not only the corporate have benefited by not passing on the duty cuts to the ultimate consumers but the Government has also come to their rescue by writing off huge tax revenue as not collectable. As per the “Statement of Revenue Foregone” given in the Budget speech this year, Rs.88,263cr has been written off as not collectable or foregone under Corporate Income Tax, Rs.1,98,291cr was foregone under the head Excise Duty and Rs.1,74,418cr has been foregone or written off under the head of Customs Duty totaling to Rs.4,60,972cr for the year 20010-11only.

Please hold your breath. The total tax revenue foregone by the Government since the last five years from 2005-06 to 2010-11 is a staggering amount of Rs.21,25,023cr, an amount equivalent to twice the total budgeted revenue of the year 2010-11. It is important to note that the revenue foregone under customs duty on import of Gold and Diamond alone in the past three years is Rs.95,675cr. which includes Rs.48,798cr in the current year. May be the best scheme for enshrining the social consciousness of the Government and their concern for “aam aadmi”. This amount will be sufficient to fund our PDS system for the whole country. The nexus between the rich and the rulers is ruining the country and the educated intelligentsia of this country is remaining deaf and dumb. We proclaim that the budget is “well balanced.” We rush to evaluate the budget even before the Hon.Finance Minister completes his budget speech but conveniently ignore and forget the important fine prints of his budget speech. We are more concerned with the rise and fall in the stock index rather than what is good for the country. Our Government is ready to write off or forego Rs.4,60,972cr tax amount due from the Corporate sector in the year 2010-11 only, but not willing to compensate the middle income group for inflation by increasing the basic exemption limit to Rs.2 lakhs.

Another important aspect to this fiscal deficit. The budget speech make a mention that the Government will introduce the Food Security Bill this year but no additional provision has been made in the budget for the food subsidy. Actually the food subsidy has been reduced by Rs.5000cr in the current year budget as compared to last year provision. Even without the food security bill the provision for food subsidy was Rs.60.599.53cr as per the revised budget estimate for 2010-11. So what will be the fiscal deficit if subsidy based on food security bill to be included is left to the imagination of the readers? The actual effect of food subsidy bill will be known only from fiscal 2012.

Considering the actual performance of the Government in relation to the expenses side, it is difficult to believe that it will be able to achieve the projected FD/GDP ratio of 4.6% in the next fiscal. If we consider the past budgeted expenses and the actual expenses since 2005-06 to 2010-11, the actual expenses were always higher by 15% to 26.42%. While the actual expenditure of 2010-11 has exceeded the corresponding budget estimate by 18.75%, FM has estimated that coming year expenses will grow only by 3.4% taking into account even the present inflation levels. Similarly the budget provision for fuel or oil subsidy for current year is reduced to Rs.23,640cr from last year levels of Rs.38,686cr [a reduction of Rs.15,040cr] seems to be highly improbable figure considering the fact that oil prices or on the rise. Lastly during the year 2010-11, Government had a windfall revenue of more than Rs.40,000cr from 3G Spectrum Auction which improved the revenue of last year dramatically but will not be available every year. Due to inflation interest rates will go up and that will further fuel the inflation as the input costs will increase. Due to inflated prices nominal GDP may go up but not the real GDP. All these facts make one to feel that FD/GDP ratio will shoot up and not decline as claimed in the budget.

While most of the emerging markets have imposed stringent conditions against short term inflow of capital in to their country, our budget has opened the floodgate to foreign short term capital through increased FII inflow. It will only contribute to the flow of hot money perhaps including the black money transferred abroad. While FDI inflow into our country in the first half of current year has declined by 36% it has increased by nearly 50% in other emerging economic countries. Thus already our country is facing a volatile forex situation and this year’s budget proposal will only aggravate the situation.

The high growth that India has been witnessing in the last decade has increasingly benefited a minority of its citizens who are rich and has more adverse impacts on the majority of citizens consisting of poor and lower middle income group. Unless the situation is corrected at the earliest, it may explode one day when all the growth will vanish into thin air.

I will be much obliged for your views.

CA.N.VENKATESWARAN.
B.Sc.,FCA.,ACS.,CAIIB.,AMIMA.

nvenkat32@hotmail.com

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