Pre-Budget reflections

Print edition : February 17, 2001
What are the priorities today?

As compared to years past, there is only subdued public excitement and anticipation in regard to what may be unfolded in the Union Budget for 2001-02. Coming so shortly after the massive damage to property and loss of life, indeed of all economic activit y in Gujarat, following the earthquake of January 26, attention is obviously focussed on the problems of the people affected. And the people in general are aware that higher taxation - additional to the surcharge on income and corporate taxes already ann ounced - is in the offing; the Prime Minister himself has warned as much. And, since the Centre has already promised Gujarat that it would pay for the full reconstruction of all physical damage suffered, the cost of which is estimated at more than Rs.20, 000 crores, the sheer magnitude of the problem requires the rest of the nation to bear the burden.

There is the other complicating factor: after the earthquake, the Prime Minister's Office issued a statement indicating that the Prime Minister had told the Planning Commission to plan for a 9 per cent rate of growth for the Tenth Plan period star ting April 2002 - even as all economic indicators point to a marked slowdown of the growth rate in 2000-01.

One would imagine in this context that the first task before the government is obviously not only to revive the economy but also to initiate significant investments both in agriculture and in infrastructure development so that a near stagnant agricultura l sector and industry may be given a boost.

A major input in Budget-making this year will obviously be the recommendations submitted on February 5 by the Prime Minister's Economic Advisory Council (headed by Dr. I.G. Patel), in its report 'Economic Reforms: A Medium Term Perspective', the objectiv e of which is stated to be "to achieve rapid economic development to improve the living standards of the people and to eliminate poverty" (emphasis added). Briefly, the Council has recommended, for agriculture, the removal of all controls on (priv ate) stocking of agricultural commodities, the "limiting of government purchases (of foodgrains) only for preventing a sharp fall in prices..."; the abolition of the Milk and Milk Products Order; and that the government should "rationalise subsidies in a griculture by carrying out price and institutional reforms in power, canal irrigation and fertilizer sectors", exempt private seed companies from land ceiling laws and "facilitate the entry of (foreign) seed companies on a large scale."

In regard to industry, the Council has recommended "a five-year phased transition from an average import duty level of 34 per cent to an average of, say, 12 per cent by 2005", and the removal of reservation (for small-scale industries), these being "the sectors where we have the maximum export potential, that is, leather products, toys and until recently also garments". Further, the "government should reduce its equity in all PSUs (public sector undertakings) except those which have a security strategic aspect"; and incidentally, Bharat Heavy Electricals Limited (BHEL) would thus fall under the category of non-strategic units to be privatised. Further, "reforms are now urgently needed" in regard to the labour market in order to provide "employers with sufficient flexibility to reduce the volume of employment or restructure producing units (or in extreme cases even close them down)."

On infrastructure, for social infrastructure, while a forceful thrust on both education and healthcare is recommended, for the effective use of resources, the "mobilisations on private sector and NGOs (non-governmental organisations), performance-based s upport by government, monitoring by rating agencies, creation of competitive environment and giving people a choice to make competition work is recommended" (implying, essentially, increased private sector participation in both education and healt h services) is recommended.

Finally, in regard to fiscal reform, while (expectedly) there is an attack on "subsidies" - both overt and covert - the Council has recommended, inter alia, that "the Planning Commission should be directed to work out an arrangement whereby, from the Tenth Plan onwards, that is, starting from April 1, 2002, half of the normal Central assistance to State Plans should be provided on the basis of a quantitatively worked out fiscal reform plan...".

WE are not concerned here with the report of the Economic Advisory Council except to the extent where it is likely to have an important influence on government policies, and to a degree on the Budget for 2001-02. Perhaps the report would be sweet music t o a beleaguered Finance Minister; for he can now easily say that the obvious intention of the Council is that the private sector - including foreign private capital - should be facilitated to undertake the requisite investments not only for agriculture ( pace the seed companies) and industry, but also for education and health (the latter through insurance), and that what is needed is essentially the speeding up of the economic reform process. That the steps proposed would create massive unemployment and unrest may be ignored. The post-War world experience has been that higher growth rates follow greater egalitarian policies, but this lesson is also clearly ignored. That India has learnt nothing from the Enron experience is clear. However, what we are no w discussing is what a sensible, sensitive Finance Minister ought to do, not what is likely to happen.

To reiterate, what are the ground conditions in India today? Briefly, both agriculture and industry are stagnating; gainful employment opportunities are getting to be scarce; and infrastructure investments are sadly wanting. Education and health services are in a total mess.

In effect, the Indian economy today is in dire need of massive state intervention to take better care of education and primary health facilities; with a heavy dose of public expenditure on irrigation, on research (on seed varieties), and on extension ser vices to facilitate better farming practices; easier (and cheaper) farm credit; and public investment on general infrastructure build-up (which may help "crowd in" private investment in industry). Even though in a sense what is needed is a Keynesian appr oach to reviving the economy, the totality of the needs of financial resources would require massive mobilisation of resources by the government. That is, even if we discount the idea of a 9 per cent growth rate for the economy.

Obviously there is need for accelerated revenue raising as well as increased public expenditure. An immediate target would be to restore Central taxes to at least 10 per cent of GDP (the Central tax revenue in 1990-91) from the level of 8.5 per ce nt to which Central tax revenues had declined by 1998-99. In 1999-2000, India's GDP was Rs.1,76,700 crores. The growth rate during the year gone by, in real terms, is now forecast at 6 per cent; this would take GDP in 2000-01 (at 1999-2000 prices) to Rs. 1,87,3000 crores. The wholesale price index (WPI) as well as the consumer price index (CPI) for rural labourers increased in 2000-01 by 5.1 per cent (RBI Bulletin, January 2001); and assuming the national income deflator to have increased by, say, 5 per cent for the year, we get GDP at market prices (for 2000-01) at Rs.19,67,000 crores. At 1.5 per cent of GDP, the additional tax collection (in 2000-01, assuming 10 per cent of GDP as the Central tax collection) would have been Rs.29,500 crores. Th is is the minimum that can accrue in 2001-02 that a serious tax collection effort, with reasonable modulations in various taxes, and with a serious effort at collection of direct taxes on tax evaded incomes, could raise.

Again, obviously direct taxes have to be increased (and the effective collection of taxes improved). This should not be difficult. The first step would be to take the opportunity of the Gujarat quake to raise the effective level of income a nd corporate taxes, and to curtail drastically the 'exemptions' (to tax) currently provided. (At present there are far too many 'deductions' and exemptions allowed without much justification). To give but one example, all professionals are permitted to m ake hire purchase arrangements to acquire a car, the entire hire purchase payment (as well as all 'costs' of vehicle maintenance and operations) being tax deductible, as a 'cost' item. After three years, all that the person will need to do is to buy up t he car for a token price (usually around Rs.5,000 or so), sell it off promptly (making a hefty 'capital gain'), pay capital gains tax at 20 per cent on his capital gain; and obtain another new car on hire purchase terms, with the entire hire purchase cha rges again being fully tax deductible. The person thereby gets a bonanza at the cost of the exchequer. The number of 'exemptions' today is galore, and all exemptions need to be reviewed.

Talking of 'exemptions', agricultural income tax has never been levied (except in a few States for plantation crops) because of the supposedly high cost of collection relative to likely receipts. But why classify mushroom cultivation and income from poul try farming as "farm incomes"? In general, the principle should be to allow the minimum necessary number of deductions/exemptions from income tax.

Again, as a matter of principle, rentier incomes should be taxed more heavily than labour incomes; and that principle would require (a) a higher level of 'interest tax'; (b) a capital gains tax at the highest rate for income tax (for both long-term and s hort-term capital gains); (c) wealth tax being made applicable not only to fixed property but also to all financial assets; and (d) the prevention of speculative capital flows, a Tobin Tax (unilaterally in India) on all foreign exchange transactions (wit h exemption only for transactions with international bodies like the International Monetary Fund). A Tobin Tax at the rate of 0.25 per cent would imply, for an exchange rate of, say, Rs.46 per U.S. dollar, a higher rupee price for every dollar by 11.5 pa ise per dollar. And the reverse would be true when rupees are sold for dollars - the Indian exporter would get 11.5 paise less per dollar worth of export. For a total of exchange transactions exceeding $100 billion a year, this tax alone, again at the hypothetical rate of Rs.46 per dollar, would yield a revenue of more that Rs.11,500 crores. The tax should obviously apply to both domestic and foreign buyers and sellers of Indian rupees, for a major rationale for the tax is to prevent speculative flows of capital. This should not depress exports - for daily exchange fluctuations are frequently much higher than the additional margin thus required for trade financing - and the tax could be collected through the 'authorised dealers' in foreig n exchange (who could be paid a service charge of, say, 3 per cent of the tax collected). In effect, this step would only increase the spread between the buying and selling rates of foreign exchange by approximately 23 paise per dollar. There are many ot her ways of raising revenue. For instance, the 'service tax' could and should be expanded in respect of coverage.

Indirect taxes also need some rationalisation; in particular, some rates of import (as well as excise) duties have been lowered far too much. For example, all elitist consumer goods could have a higher rate of excise duty (and the import of all co nsumer goods could be taxed higher). With the phasing off of all quantitative restrictions on imports, we need, in any case, fairly stiff import tariffs for consumer goods. Unfortunately, the Prime Minister's Economic Advisory Council has recommended jus t the reverse.

However, as indicated earlier, we are concerned here with what should be done. If the priorities are: economic development in general, and greater focus on education, health and other social needs of the populace, then we need massive revenue rais ing for greater (and more effective) expenditure by the state to build social and economic infrastructure. (In regard to essential economic infrastructure, the experience of private investment has been discouraging. The Enron experience should be a remin der to India's policy-makers on this issue.)

IT is time to remind ourselves of several essential points on which public attention has not been drawn thus far. Both the Constitution and the basic development strategy (unfolded in the Second Plan) envisaged economic development essentially within a c apitalist framework; the Fundamental Right to property should make that obvious. And yet, both the Directive Principles of State Policy (in the Constitution) and the Supreme Court's interpretation of the right to life for every citizen clearly envisages a 'humane' capitalist system wherein the state would ensure certain minimum basic conditions of life and living for every citizen. Essentially it is the concept of the 'welfare state' that inspired the makers of the Constitution; and the progress made wo rldwide in the golden age of capitalism is an abject example. The concept of 'social security' is not the same as the concept of 'safety nets' that is now talked about widely.

This brings us to a review of public expenditure. Again, the priorities are clear. If there has to be an increased focus on 'education' and 'health', we need to empower the local bodies (panchayats/nagarpalikas) to undertake the delivery of these service s; and with empowerment and responsibility these bodies must be enabled (financially) to undertake significant expenditure on primary education and primary health facilities.

At the same time, we need better 'funding' of higher education as well as of research and development efforts (by agencies like the Indian Council of Agricultural Research). Certainly there should be better 'accountability' in regard to expenditures; but the twin experiences of the panchayats in West Bengal and Kerala (and of late in Madhya Pradesh in the matter of primary education), and of Central R&D effort in nuclear and space research indicate that wisely monitored - and with proper 'empowerment' - the effectiveness of such expenditures would be assured. (Today the science faculties of universities are starved of funds; libraries are in doldrums. We need to build a new generation fit for the information technology era, for which a massive state ef fort to raise the educational level of the populace is necessary.)

Equally, economic infrastructure build-up would require massive resources. The power sector alone is one where the experience of 'unbundling' and privatisation has been disastrous. We must learn from experience, and revert to a state-led investment progr amme. Certainly there is a case for higher 'user charges' being collected for all public services - be they higher education or public health, power supply, or even railway travel - but there is growing evidence that reliance on the private sector for the development of social and economic infrastructure is likely to end in failure.

Equally, Plan outlay in other essential sectors has not only to be increased. It must be reiterated that public expenditure in India has a "crowding in" effect on private investment, and that if we want to get out of the present recessionary phase in both agriculture and industry, we must effectively increase the level of public expenditure - for which we need to raise significant levels of additional revenues.

At a time when the country is reeling under the simultaneous threats of World Trade Organisation pressures - and the impact thereof on employment and incomes in India - and deep, recessionary conditions in both Indian agriculture and industry, the 'prior ities' for Budget 2001 are clear. Massive state outlay on social and economic infrastructure build-up is necessary. Obviously this requires massive resource-raising. Yet the signs are ominous; the coming Budget would doubtless indicate whether there is t o be a turnaround in the economy in 2001-02, or whether the seething resentment throughout the country would be given further fuel to ignite chaotic disorder throughout the country.

Arun Ghosh, a former member of the Planning Commission, has been associated with economic policy-making for more than two decades.

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