Budget 2023 should focus on financial consolidation; need to scale back on subsidies: Renu Kohli

Union Budget 2023 should look to spell out a detailed plan towards financial consolidation, says Renu Kohli, Senior Fellow at Centre for Social and Economic Progress. In an interview with Times of India's Smriti Jain, Renu Kohli talks extensively about the risks to India's growth story, the need to scale back on subsidies and focus on capital expenditure. Edited excerpts:
There is a lot of debate on the resilience of the India growth story amidst global headwinds. How decoupled is India?
One can observe the variability seen in 2022, and going ahead it will be even more uncertain according to all kinds of predictions from the IMF, OECD and other agencies including our central bank. Recently RBI scaled down its growth projection for 2022-23 for the third time. In total it is a full 100 basis points lower than the original February forecast of 7.8%.
The revision in April was triggered by geopolitical escalation, a surge in oil and commodity prices, significant weakening of external demand and increased uncertainties about normalization of monetary policies in the major countries. In September RBI again lowered growth projection due to geo-political tensions, tighter global financial conditions and slowing external demand.
The answer to India's immunity against external risks can be found by looking at the trajectory of our own growth forecast this year. This is not to say that growth will be hit, but I think it's at serious risk. RBI already foresees marginally slower growth in the first quarter of FY24. We are yet to see how the forecast for the last quarter of this year will pan out.
What are the major reforms that the government has missed out on? What are your top 3 ideas for Budget 2023?
Agriculture reforms have received a setback. The timing is important, how it is approached and made more palatable. On the rest I think it's more a question of improvements and acceleration. For example restructuring of labour markets, privatization of unviable or inefficient public entities etc.
On the budget front, the top most priority is the need for financial consolidation. It is essential given the increased stock of public debt, mounting interest payments and subsidies, and the fact that demand has been recovering very strongly. Global conditions have changed with rising interest rates, tighter financial conditions, return of the bond market vigilantes as seen from the strong market reactions. Micro financial as well as instability risks are very high.
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A detailed fiscal plan which was avoided in the last 2 years due to uncertainties from the pandemic, slowing global growth and for retaining flexibility for responding to the crisis would be helpful. It will help preserve confidence. Right now we have the medium term fiscal policy cum strategy statement in the budget. It only talks about reaching a deficit to GDP level below 4.5% by FY26. The details need to be shared. Finally, there also needs to be clarity about the FRBM Act.
What is the road ahead for subsidies?
There has been a longstanding need to keep food subsidies within limits. Those limits need to become binding. You need to either raise the rates of subsidised food or restrict the number of beneficiaries, or a mix of these two. In the last 2 years the food subsidies have risen because there was a need. But now there is a need to scale it back.
Any such crisis response needs to be scaled back once the crisis subsides. The demand has begun to recover and there is a lot of optimism regarding the fact that India is expected to grow at 6.9% this year, followed by 6% next year. That has earned India the label ‘bright spot’. The demand recovery is suggested to be strong and if that's the case then the argument for continuing the food subsidy at such high levels does not hold.
The fertiliser subsidies have hit the roof because global prices have been rising. This is part of the external shock. This is tightening our budget constraints. Any increase in fertiliser prices translates directly into a rise in food prices.
Also, the dependence on urea has increased in light of the rise in fertiliser prices. That is bad for India's soil health. We need to prune fertilizers subsidy, but this is an issue which impacts agriculture production. It is a trade off with other expenditures. Typically, what has happened in the past is that the capital expenditures have suffered because there is no direct constituency for that.
Food and fertilizer subsidies also form part of the political economy. It is not as straightforward as the case of infrastructure spending.
There is also an ongoing debate on the Old Pension scheme...
Again that's an issue of political economy. It is certainly bad because it's a regression of our reforms. It is most unfortunate because if there was one thing about India in the post 1991 era it is that reforms continued regardless of the government in power, though gradual they have been irreversible.
In many countries there is a reversal of reforms because of politics. In India it was a statement of confidence in that sense.
Whether it is reversion to the old pension scheme, or return of high trade tariffs, it doesn't signal well. The latter is a setback to trade liberalization. It is an adverse signal and also bad from the standpoint of our fiscal affordability. The can is just being kicked down the road for future generations, it is a setback for reforms.
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Within the constraint of maintaining the fiscal deficit target, what should the government do on the capital expenditure front to continue aiding growth?
There is not much space in the light of global developments. There are mounting interest rate payments, it's just unaffordable. The trade off is very clear, shelving that portion of current expenditure that is discretionary. The committed expenditures such as wages, salaries, interest payments etc. are non-negotiable. The only discretion is applicable in the context of subsidies, that is food, fertiliser and fuel.
The government can decide on how much it chooses to spend on capital expenditure. We must also look at the evolution of public investment and current expenditures. Although the public investments have been rising, the rise is not extraordinary in the light of the past evolution. As a share of GDP, there is a modest plateauing out, and then a decline. I think the peak was sometime in 2017-18.
The current spending on social sector schemes is very high. Part of the expenditure on these schemes is taken as capital expenditure, part of it is current expenditure.
We should see whether we are getting the bang from the buck. The government has been pursuing this strategy of public capex because private investment hasn't recovered since it collapsed in 2012.
The government has stepped up and maintained its capex, to be fair, but yet we have seen that even pre-pandemic growth rates were decelerating. The peak was 8.2% GDP growth 2016-17. Thereafter we have seen 6.8%, 6.5% and the sudden collapse to 3.7% in FY20 which was before COVID-19.
Inefficiencies associated with public investment are very common across countries, especially developing ones. Is it a capacity constraint or exogenous and extraneous factors which are holding back private investments; these are issues for introspection regarding the direction of fiscal policy and the choices to be made.
Every year the common man wants the government to reduce income tax rates or at least rationalise slabs...
It is not the right time, it would also be an adverse signal. The macroeconomic stability risks are very high, the external environment is dangerous. I don't think that risk should be taken unless of course the overall numbers are adhered to.
What is the road ahead for GST?
It's a question of improvement and something that is being constantly worked upon by the government. It is often reported that the high collections are reflecting better compliance. This is on account of improvements in the framework and better screening and monitoring. These changes appear to have yielded some dividends.
We need to see for another year or so because in the last 2 years the distortions in all kinds of data are enormous. There is a sudden plunge, then sudden increase. The factors that are affecting all economic variables, and that includes tax collections, are extraordinary.
The improvements are ongoing; whether administrative, framework, compliance etc. As it picks up pace, ideally it should lead to further improvements in compliance.
Any other recommendation for the Budget...
The government should make sure that if they can't cut import tariffs and duties, they should definitely not raise them any further. There are a lot of complaints, especially from the export side, that it is impacting input costs. A lot of these imports also feed into exports.