Budget 2013: Focusing on growth Chidambaram’s only hope

February 11, 2013

(Any opinions expressed here are those of the author and not those of Reuters)

When P. Chidambaram entered the corridors of  North Block in August last year after his appointment as India’s finance minister for the third time, he had his work cut out.

India was facing fiscal and current account deficits, an infrastructure bottleneck, high inflation, slowing growth and an increasing subsidy burden. Adding to the country’s woes was the threat of a rating downgrade.

While Asia’s third-largest economy is showing signs of reviving after Chidambaram took over at the ministry, it’s still too soon to pass judgement. One of the critical milestones still ahead is the annual budget which he will unveil on the last day of February.

When Chidambaram was finance minister between 2004 and 2008 in the first UPA government, things were different. The India story was at its peak and his budgets were cheered by the markets. This time around, while domestic risk factors such as inflation and low growth haven’t yet receded, the Congress-led government is set to face polls in a year (if not earlier). So the question is — will Budget 2013 be reformist or populist?

On the growth front, Chidambaram’s priority would be to trigger the investment cycle. Winning back investor confidence is important and this has already been his ministry’s focus in recent months.

Budget 2013 could provide an opportunity to roll back some of the confusing tax reform proposals that scared off foreign investors last time. It could also be used to provide certainty on the General Anti-Avoidance Rule (GAAR) as well as taxation of FIIs and P-notes holders.

These moves can alleviate investor fears and should help project a stable tax environment, which could enable the economy to benefit from the global liquidity rush. Chidambaram should also use the opportunity to make some big-ticket announcements such as outlining the Goods and Services Tax (GST) framework.  A time-bound implementation plan would also boost industry spirits.

The budget can do little to address domestic issues such as land acquisition and environmental clearances that are plaguing the investment cycle. But a fillip could come in the form of an extension of the sunset clause for tax holidays for the power sector and clarity on the grandfathering of profit-linked incentives under the proposed Direct Taxes Code (DTC) regime.

Containing the fiscal deficit would also be high on the finance minister’s agenda. There are only two ways — increased revenues or reduced expenditure. History suggests that no country has ushered in a high growth regime by increasing taxes. Instead, the focus should be on enhancing consumption and investment by individuals and corporates with a higher disposable income.

India was witness to this success formula over the last decade where a gradual reduction in tax rates pushed the India growth story. The focus, instead of raising taxes, should be on easing compliance and enhancing the tax base.  There is talk of introducing the inheritance tax but one wonders whether something that deters capital formation is called for in the current environment.

With limited options for increasing revenue, Chidambaram will focus on the expenditure side and subsidies would be on his “axe list”.

Focusing on growth would be Chidambaram’s, the government’s and the Congress party’s only hope for a reversal of fortunes. They have a seasoned campaigner batting for them and India hopes to benefit from his master innings.

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