THE main challenge before the Finance Minister is to control fiscal deficit without compromising on growth. The two financial sources of government are revenue-and capital receipts. Revenue receipts consist mainly of tax collections. Capital receipts include those from disinvestment, sale of 3G spectrum etc. These receipts are inadequate for meeting the necessary expenditures, however.
Ordinary citizens like us cannot make expenditures in excess of our incomes. The bank will dishonour the cheque issued in excess of the credit balance in our accounts. The Government does not face such a limitation. The Reserve Bank does not dishonour cheques issued by the Government. Instead it prints notes and provides loans to the extent of cheques issued much like the Bank provides loans to the extent of charge made on the credit card. This borrowing is called fiscal deficit in economics parlance. The Government is free to make as much expenditures as it pleases.
But there are other negative impacts of such excessive expenditures made by the Government. The notes that are printed by Reserve Bank lead to price rise in the economy much like increase of pressure in the pressure cooker. Say the economy is in equilibrium. 100 kg wheat is available in the market while purchasers have Rs 1500 in their hands. The price of wheat is Rs 15 per kg. The Government steps in this situation and buys 20 kg wheat with notes of Rs 300 that were printed by the Reserve Bank and provided as loan. Now only 80 kg wheat is left in the market for sale while purchasers continue to hold Rs 1500 for their purchases. Consequently the price of wheat increases to Rs 19 in the market. The price rise and people are restive if the Government resorts to a large fiscal deficit. We can see such a price raise taking place presently.
Fiscal deficit also leads to devaluation of the currency after some time. Historians tell us that countries that minted silver coins at one time were forced to make copper and even leather coins because their currencies got weak due to excessive expenditures. The US dollar is facing such weakness today. The price of an ounce of gold in 1971 was $35. It has become more than a thousand dollars today because that country has made huge expenditures in Iraq and Afghanistan wars. It has borrowed huge amounts from rest of the world through the sale of Treasure Bills. Our rupee is not far behind. It is languishing at about Rs 46 per dollar presently-down from Rs 5 of the sixties.
Fiscal deficit can yet be beneficial in facing short run problems. A sick man is well advised to borrow money for buying medicines. He can repay the loan after he becomes well. Similarly, Government of India has done well to increase expenditures by relying on fiscal deficit to face the global economic crisis. But such measures are beneficial only in the short run. Problems of price rise and weakness of the rupee are raising their heads.
The Finance Minister has made clear his intention to reduce the fiscal deficit. This resolve is in the right direction. But it is difficult to do this. He will have to withdraw the concessions in rates of excise duty and service tax that were given in the stimulus package in the wake of the global meltdown. This will lead to increase in tax burden on the businesses. The world economy is not out of the dumps yet. Job losses are continuing quarter after quarter in the United States. Economies of Greece and Portugal are in trouble in Europe. Japan’s economy is flat despite a stimulus package. Raising tax rates will make it difficult for Indian businesses to face the shrinking global demand although increase in demand from other developing countries will make up for this loss to some extent.
It is equally difficult to reduce expenditures. Major items like interest payments, defense and salaries and pensions of government employees are fixed and defy reduction. Expenditures on social sector schemes like Employment Guarantee also cannot be reduced for the fear of political backlash from the voters. The Finance Minister is, therefore, hemmed in from all sides. He has to reduce fiscal deficit to control inflation. But he cannot raise taxes due to continuing global slowdown. And he cannot reduce expenditures as they are already committed.
One solution is to sell shares of Public Sector Undertakings. But there is limit to this. Only investments made in the past can be converted into cash. Unlimited amounts of money cannot be raised from this route. Further, it is like selling the family silver of the country for garnering votes. The Finance Minister will certainly resort to this but this will not be sufficient. More creative approach is required. The trick lies improving the quality of expenditures such that the reduction in amount does not lead to any harmful effect.
It is well known that government employees take a cut of 20 to 80 percent from the expenditures. One reason of this is that government employees have available to them all trade union rights of an ordinary citizen. They hide behind the shelter of courts and unions when charged with wrongdoing. The Government must impose rules similar to those applicable in the army upon all government employees. They should be disenfranchised along with their families. They should serve the government without any personal political allegiances. Confidential assessments of their working should be got done from the public though independent observers. The promotion of the Junior Engineer should take into account the findings of such a survey. Such measures will lead to an improvement in the quality of government expenditures and more than compensate for any reduction in the amounts spent.
Various expenditures undertaken in the social sector schemes should be diverted towards giving of employment subsidy to businesses. The employer’s share of Provident Fund should be paid by the government. A subsidy equal to the provident fund deducted from salaries of the workers may also be given to the employers. This will lead to reduction in cost of production and enable them face the increase in tax rates consequent to withdrawal of the stimulus package. It will become profitable for businesses to employ larger number of workers and the negative impact of reduction in social sector expenditures will be cushioned.
Expenditures on the judiciary should be increased ten times. About Rs 2 lac crores is lying locked in litigation according to an assessment made by the Confederation of Indian Industry. It is necessary to dispose off these cases speedily and bring this money back into circulation. A small increase in expenditure on the judiciary will lead to a large increase in economic growth.
The Finance Minister has to increase tax rates and reduce expenditures to control price rise. But doing this in a business-as-usual model will bring forth other negative impacts. The solution is to focus on improvement of quality of government expenditures.
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