Expert Zone

Straight from the Specialists

Why the budget is under stress

February 6, 2012

(The views expressed in this column are the author’s own and do not represent those of Reuters)

In the first seven months, the fiscal deficit crossed three-fourths of the target set for the year. This was entirely because the liberal expenditure on current account was not covered by the revenue the exchequer earned. It is quite on the cards that fiscal deficit for the year will exceed the target.

The fiscal deficit has been a cause of worry for most finance ministers. That is because the budgets they present to parliament are inevitably overcome by political rather than economic considerations. That is what has put many of the governments in Europe on the brink of sovereign default.

Even the U.S. credit rating was downgraded by S&P precisely because the fiscal deficit was excessive. India is no exception.

It is the revenue deficit that has created the problem for Pranab Mukherjee because nearly 86 percent of the current expenditures are on interest payments, defence and subsidies, leaving no room for manoeuvre.

Subsidies are not on par with interest payments and can be the key to fiscal consolidation. In the budget for 2011-12, the finance minister had provided 1.43 trillion rupees for subsidies on fertilisers, food and petroleum products. That was 13 percent less than the expenditure in the previous year. But actual expenditure in the first seven months of the current year was 8 percent higher. The political appeal of subsidies is irresistible. In the last eight years, subsidies quadrupled when total expenditure only trebled.

Are all the subsidies really necessary? Certainly not because most subsidies benefit sections of people that are quite well off.

Take food grains. Since fertilisers are subsidised and so also diesel, the price of food grains in the market is lower than what it should have been if the full cost of production were to be passed on. The farmer knows the value of fertiliser use and if the fertiliser is market-priced he can recover the expenditure on fertilisers from the higher price of the farm product. So also of diesel. If these subsidies are knocked off, savings for government will be over a trillion rupees. And the loss? Perhaps TMC as an ally.

There is certainly justification for food subsidy. Even for economic reasons, it is necessary that food is made available to the needy to improve their productivity. That presumes an efficient distribution machinery which is not the case. The Planning Commission itself discovered that more than a half of food grains do not reach the intended beneficiary. Result? More than 300 billion rupees of food subsidy goes into the pockets of intermediaries.

The next budget has to address the subsidy issue if the finance minister is serious about fiscal consolidation. That is unlikely because the food security bill will impose additional burden which will double the food subsidy. If that is necessary, it is inevitable other subsidies have to be withdrawn. Otherwise, the budget will be under greater stress.

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