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The Bicycle Theory of Deficits

Omkar Goswami

Finance Minister Pranab Mukherjee has already had his ears full of advice from industrialists, bankers, economists and others — through newspaper articles, TV channels, consultative meetings and quieter conversations. By the time you read this piece, the broad contours of the Budget will be in place. What will be left are the final numbers, Mr. Mukherjee’s flourishes to the Budget speech, and the odd proposals that invariably find their way at the fag-end of the exercise.

As everyone has guessed, this Budget will reflect all the key economic elements the President’s speech to Parliament. The leitmotif is inclusive growth. As I have written earlier in this column, the greatest governance challenge is to reduce the massive disparities and inequalities in growth: between rural and urban; and between the north, west and south on the one hand, and the central, south east, east and north-east on the other.

A key element of inclusive growth will be larger outlays on the national rural employment guarantee scheme under the NREGA. Yes, the performance of the NREGA leaves much to be desired. There are leakages; money often goes to the rural mafia instead of the intended beneficiaries; and the scheme is worst implemented in the poorer districts which suffer for abysmal administration. It is also true that giving a dole to a person below poverty line for 100-days a year does not help create the rural infrastructure that could eventually lift her or him above poverty. Even so, the NREGA is an important tool to give some source of livelihood to the poor, and it should be expanded. Equally, I hope Mr. Mukherjee will dangle a carrot — such as increasing the outlays for those districts that have used the funds more effectively than others.

The other elements of inclusiveness involve kick starting the Bharat Nirman programmes. These are huge projects. Just to give a flavour, these involve providing:
• Roads to over 38,400 villages, plus almost 21,000 lesser habitations in hilly and tribal areas.
• Telephone connection to almost 67,000 villages.
• One crore hectare of irrigation: six million hectare from major and medium projects; three million hectare for ground water development; and a million hectare for minor irrigation projects.
• Water supply to over 55,000 uncovered habitations; plus potable water for almost 217,000 villages.
• 6 million rural houses at the rate of 1.5 million each year.
• Electricity for 125,000 villages.

It is quite possible that these ambitious targets will not be achieved. But this government has come to power by promising hope of a better tomorrow. This can only happen by significantly improving rural infrastructure. Therefore, Bharat Nirman will, and must, get the pride of place in the country’s governance. That will require sustained funding, matched by good implementation.

The list can go on. Education. Rural health. Rapid acceleration of national highways, which was comprehensively destroyed by the previous minister of Surface Transport. Ports. Airports. And power, where the peak deficit for 2008-09 was over 12%; where of the total target of 11,000 MW for capacity addition during 2008-09, only 3,500 MW was achieved; where ‘Power for All’ entails building a generation capacity of at least 200,000 MW by 2012 from the present level of 147,715 MW.

Therefore, expect large outlays in Budget 2008-09. Given that tax revenues won’t be very buoyant up to the first half of the year, expect the Centre’s fiscal deficit to be around 5.5% of GDP.

You can also expect some reform measures. I would be looking at a divestment target of around Rs.20,000 crore to Rs.25,000 crore; a clear intent to increase foreign direct investment in insurance to 49%; to reform the pension scheme; to announce programmes for raising FDI in key sectors. If I were to hope even further, there could be the end of the securities transactions tax and the fringe benefit tax. There may even be some cleaning of the tax regime, by getting eliminating all exemptions that are due for expiry; and by getting rid of the surcharge and, instead, raising the maximum marginal income and corporate tax rate to 35%.

These should soothe markets and establish the reform credibility of this government. But these won’t get the deficit to below 5.5% of GDP. Mr. Mukherjee, therefore, will have to bet on what the ‘bicycle theory of deficits’. If you cycle fast, you won’t wobble and fall. Similarly, if you grow fast enough, you can handle a higher deficit in the short run. With the hope that growth and revenue buoyancy will soon come into play, when fiscal rectitude can also kick in.

The bicycle theory is dangerous. Politicians and bureaucrats love deficits, just as diabetics love candy. So, while I won’t begrudge Mr. Mukherjee his one fling with 5.5% deficit, here’s warning: “Beware of keeping the purse open. It can be looted before you can say ‘Raja Rammohan Roy’”.


Published: Business World, June 2009


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