Budget must chart credible fiscal consolidation path: Bibek Debroy

In an interview, Debroy said the finance minister’s budget speech should communicate the government’s overall goals and how its initiatives fit the bigger picture, as they may not be obvious to citizens.

Debroy’s suggestions indicate that the Modi government’s last full-year budget in its second term will favour fiscal prudence and productive spending that has a multiplier effect on the economy rather than populist measures. The budget will also present an opportunity for finance minister Sitharaman to showcase welfare measures and initiatives to improve the business climate.

Debroy said the budget is likely to be conservative in its economic growth assumptions, as has been the precedent, despite expectations for a 13% nominal GDP growth. The budget uses nominal GDP, rather than real GDP, for fiscal deficit calculation, and experts expect a fiscal deficit of 5.7-5.8% of GDP in FY24.

Also, the Centre’s gross tax revenue could grow a little over 13% in FY24, Debroy said. “I think we (the economy) will grow in nominal terms at 13%, but I did not say that the budget will assume that. The budget will probably assume a lower rate. So gross tax collection growth in FY24 could be a little higher. Depends a little bit on what is done on import duties but otherwise, a little bit higher than that (13%),” said Debroy. The government had to keep import duty on edible oils low this year to cool prices in the wake of a global supply disruption.

The Centre has also expanded the tax base, improved compliance, and increased administrative efficiency, contributing to tax buoyancy. GST collections for the Centre and states rose 27% in the eight months to November to ₹11.9 trillion from a year ago, and the Centre’s net direct tax collection has risen 20% to ₹11.35 trillion as of 17 December. However, FY23’s budget conservatively estimated an 11.1% nominal GDP growth and a 9.6% gross tax revenue growth. Debroy expects nominal GDP growth to be “pretty close to 14%” in the current fiscal year.

Debroy suggested that the budget speech should convey how the government’s initiatives fit into the bigger picture.

“In the big picture story, it is also important to clearly set out a clear medium-term fiscal plan because the finance minister is committed to reducing the fiscal deficit to 4.5% in 2025-26 as a ratio of GDP. This year, it is 6.4%. There have been a lot of commentaries saying it is very high. There must be a credible plan to reduce it, a credible plan to persuade the rest of the world that India is serious about fiscal consolidation because otherwise, debt will not be sustainable,” Debroy said.

The third thing is managing the books to ensure that capital expenditure continues, Debroy said. To manage capex, tax and non-tax revenue, including asset monetization, have to be managed well.

Debroy said efforts are also needed to increase the adoption of the personal income tax regime without exemptions, as few people have opted for the exemption-free system. “So, I am sure the budget will have some things to incentivize this movement because the direct tax reform agenda involves that. When we say a large number of people who submit income tax returns are not paying taxes, a small part of it is evasion, and a large part of it is avoidance as people are using exemptions to cut tax. So the challenge is to move towards an exemption-less system. It cannot happen overnight, so incentivize it,” said Debroy.

The new personal income tax regime, which does not offer exemptions, has tax slabs of 5%, 10%, 15%, 20%, 25% and 30%, compared with the old scheme with exemptions, which only had slabs of 5%, 20%, and 30%. The finance ministry has been considering ways to make the new scheme more attractive. Edited excerpts:

The International Monetary Fund said global growth will further slow down next fiscal as the lagged effects of synchronized monetary tightening by major central banks around the world will kick in. What is your assessment?

There is a lot of uncertainty in the world. There are essentially four engines of growth—consumption, investment, government spending and net exports. Net export depends on what is happening globally. Net export as a major driver of growth is not likely to happen next year. Now we come to the growth question. This year, it is more or less everyone’s consensus that growth will be just about 7%, maybe 6.8%, or something of that kind. It is completely unreasonable for growth rates of 8% or 8.5% when all of this is going on in the world.

Now we come to the next fiscal. There is one issue about what the growth rate is likely to be. There is another about what kind of assumptions the government should make because the Union budget is coming. Given the uncertainty, we should be prepared for the worst. If something better happens, it is fine. I am personally inclined to think—that is, not the EAC-PM, because within the council, there are different points of view, as there very well might be—the broad band for next year’s growth at, say, 6.5-7% in terms of real growth. I think the budget does not state real growth numbers. It states the nominal growth rate. I am personally inclined to think one should prepare for 6.5%, although, as I said, there are some who believe it could be 7%. That is the range of growth for FY24.

What about the nominal growth rate?

Nominal growth is dependent on inflation. Food inflation has become a bit muted. It is less than what it used to be. Commodity prices have become lower. One should not expect inflation to be not more than 6.5% in FY24, probably a bit lower. In other words, one should probably factor in a nominal rate of growth of about 13%, and not more than that. The finance ministry has been conservative, which is a good thing. This year also it was conservative, and compared to budget figures, the nominal rate of growth is expected to be higher. My take would be about 13% growth in nominal terms in FY24. In all probability, the budget may assume a nominal GDP growth rate that is a bit lower because it is better to be conservative and be proved wrong than to be over-ambitious and proved wrong. Let me put in a qualification here before I answer about the FY23 nominal GDP growth rate. When we talk about nominal growth, we are actually talking about the GDP deflator. It is the weighted average of the Wholesale Price Index (WPI) and Consumer Price Index (CPI). They have behaved in different ways. Also, unfortunately, our GDP numbers are such that correct data come with a time lag. With those qualifications, this fiscal, we should get a nominal GDP growth of pretty close to 14%.

What should be the broad theme of the budget for FY24?

The government has been doing many different things, and it is not always very obvious to the citizen how all of these things fit together in the broad jigsaw puzzle. I think the first thing the budget speech should be doing is to convey this message because, in a sense, this is the last budget before elections. Convey this message that this is what the government is trying to do. This is how it fits into the big picture. In the big picture story, it is also important to clearly set out a clear medium-term fiscal plan because the finance minister is committed to reducing the fiscal deficit to 4.5% in 2025-26 as a ratio of GDP. This year, it is 6.4%. There have been a lot of commentaries saying it is very high. There must be a credible plan to reduce it, a credible plan to persuade the rest of the world that India is serious about fiscal consolidation because otherwise, debt will not be sustainable. The third thing is managing the books, which means ensuring that capital expenditure continues to happen. A lot of revenue expenditure is fixed in the short run. You cannot do anything about that. Managing capital expenditure entails ensuring there is revenue—tax and non-tax–to make that capital expenditure. On the direct tax side, today, one has two options. Do I opt for a system with exemptions or without exemptions on the corporate side and on personal income tax? The trouble is that not too many people have opted for the exemption-less system. So I am sure the budget will have some things to incentivize this movement because the direct tax reform agenda involves that. When we say a large number of people who submit I-T returns are not paying taxes, a small part of it is evasion, and a large part of it is avoidance because people are using the exemptions to reduce tax. So the challenge is to move towards an exemption-less system. It cannot happen overnight, so incentivize it.

Since, in nominal terms, the economy will expand by about 13% in FY24, the Centre’s gross tax collection should also increase by that measure.

I think we will (GDP will grow in nominal terms by 13%) but I did not say the budget will assume that. The budget will probably assume a lower rate. Gross tax collection growth in FY24 could be a little higher. Depends a little bit on what is done with import duties but otherwise, a little bit higher than that.

Given that we have an inflation problem and global demand is expected to moderate further in FY24, it looks like, as far as boosting consumption is concerned, the government’s hands may be tied. Where should businesses take confidence from?

All indicators come with a slight time lag. There is some consumption which happens regardless, which is essential consumption. Some consumption is discretionary. That discretionary consumption is a function of uncertainty, and it is also a function of expectations about inflation. The government has instilled a sense of certainty and stability in policy. It is a bad idea to try to stimulate consumption by lowering taxes. In any case, the multiplier effects of capex are far higher than any tax reduction can have. What you can do best about consumption is to impart certainty through policies and tax rates. I do not think that there are great expectations about inflation going up. Indicators show consumption has revived. One might say some of this is because of the rebound from the effects of covid. Even if you take away the rebound, signs are that consumption has started to revive. More than imparting a sense of continuity in policies, there is nothing else the Centre needs to do.

And capex, of course?

Yes. Unlike many other countries that got into trouble after covid lockdowns because they increased their revenue expenditure, this government has been fiscally conservative. Except for the free food programme part of it, the increase has been in capex. So the Union government capex stimulates consumption and also stimulates private investment. If you look at indicators—of course, there is the time lag—there are signs that investment is recovering. The production-linked incentive scheme has also helped. So, I don’t think one should be negative about either consumption or investment. Let me phrase it differently; there are constraints on both consumption and investment. The question to ask is, are those constraints, constraints if one is talking about 7% growth or are they constraints if one is talking about 8.5%? For 7% growth in FY24, I think there is enough steam in the system.