In Praise of Prudence

DEFYING CALLS FOR OPENING ALL THE spending taps, the first Budget of Prime Minister Narendra Modi’s third term in power has dis­played its trademark combination of fiscal pru­dence, welfare, and its strong emphasis on capital expenditure, the trinity that has come to define its approach to managing the Indian economy.

Given the political climate, especially after the General Election, it was speculated that a degree of ‘corrective spend­ing’—code word for populist spending—would be undertaken by the Modi government. Nothing of that kind happened. The government has promised to reduce the fiscal deficit in 2024-25 by almost one percentage point over the last fiscal to 4.9 per cent of GDP even as it has ramped up capital expenditure to give a boost to economic growth.

Some ingredients of this approach were obvious in the Budget. While gross tax revenues are expected to increase by 10.93 per cent in 2024-25 over 2023-24, net tax revenue of the Centre will grow by 11 per cent. At the same time, non-tax revenue will go up 35.78 per cent and within this category, dividends and profits from financial institutions—which includes the surplus transferred by the Reserve Bank of India (RBI)—will grow by a whopping 69.6 per cent over 2024-25. This is the secret sauce, so to speak, of the government’s fiscal performance. The bonanza from RBI—amounting to 0.4 per cent of GDP—will be spread equally between fiscal consoli­dation and higher current expenditure.

What makes the Budget remarkable is that even as fiscal consolidation is underway, the quality of spending has improved. Private-sector economists define the ‘quality of spending’ as the ratio of current expenditure to capital expenditure. The lower the ratio, the better is the quality of spending. Current expenditure is the composite of revenue expenditure, interest payments subsidies, and other bits and parts of year-to-year expenditures. In a note on Tuesday, July 23, HSBC’s India and Indonesia economist Pranjul Bhandari estimated the quality of spending ratio as coming down from a high of 7.2 in 2020-21 to an estimated 3.3 in 2024-25. This is a dramatic improvement from the year of the Covid-19 pandemic to the current fiscal year. In all these years, fiscal consolidation has been the mantra of the Modi government. This combina­tion of fiscal consolidation and better quality of expenditure shows in the rising level of capital expenditure. This year, the Centre’s capital expenditure is ₹11.11 lakh crore, amounting to 23 per cent of total expenditure. This figure has gone up steadily from 17.64 per cent of total expenditure in 2022-23 (actuals) to 21.35 per cent in 2022-23 (Budget estimates). These figures, however, are an understatement. When capital expenditure is broken down in GDP terms, this fiscal, In­dia will spend 5.7 per cent of its GDP on this head. Of this 5.7 per cent, 3.4 per cent comes from the Centre, 1.2 per cent is the Centre’s as­sistance to states for capital expenditure, and 1.1 per cent is the contribution of public sector enterprises. The same figure for 2023-24 (Bud­get estimates) was 5.4 per cent and for 2022-23, it was 5.2 per cent. These are substantial sums that are not easy to sustain in a noisy and fractious democracy like India where the demands on government revenue and resources are endless.

These productive parts of expenditure should be contrasted with the politically un­avoidable but ‘expensive’ bits of spending. Take the bill for fertiliser subsidy. This stands at ₹1,64,000 crore. This figure has come down from the extraordinary ₹2,51,339 crore in 2022-23 when exceptional geopolitical uncertainty arising from the war in Ukraine had led to elevated fertiliser prices and the subsidy had to be increased to prevent unrest among farm­ers and also to keep the prices of food under check. Similarly, the food subsidy bill remains elevated at ₹2,05,250 crore. This figure—as well as that for fertiliser subsidy—represents a drop from the revised estimates for the last fiscal (2023-24) when the Budget estimates were lower but then expenditure slippages took place. If one adds petroleum subsidy, the total tag for these three components comes to ₹3,81,175 crore. This is 89 per cent of all subsidies and the bulk of these go to farmers, directly and indirectly. This is over and above the allocation for agriculture and allied sectors in the Budget that stands at ₹1,51,851 crore. This huge outlay—which comes close to what the country spends on its defence—is in marked contrast to the noises made by a vocal section of farm leaders who claimed the Budget had nothing for farmers.

These are the pressures that any government has to bear while dealing with organised special interests in India.

The one troubling aspect of the Budget on the expenditure side is the continuing burden of interest payments. In fiscal 2024-25, these payments amount to ₹11,62,940 crore, or nearly 35.5 per cent of the revenue receipts. As a per­centage of tax revenue (net to the Centre after payments to states), this figure is even higher and stands at 45 per cent. These are extraordi­narily large payments. If one were to single out one factor that cramps the Centre’s fiscal room for manoeuvre, it has to be the heavy burden of interest repayments. These payments are due to the debt incurred over time by the govern­ment. In this context, it is heartening to note the statement of Union Finance Secretary TV Somanathan, who said after the Budget presentation, “Hereafter, it is not the intention to focus on a deficit number but rather to look at what will keep reducing our debt-to-GDP ratio in normal years.” If that course were adopted, it would be a prudent one: a lower debt level will not only allow a greater fiscal room to the government but would also make it possible for India’s sovereign rating to improve.

NY UNION BUDGET IN INDIA is first and foremost a political exer­cise. It is a fallacy to view it as a mere problem of allocation of resources to different sectors of the economy. That description is bet­ter suited to erstwhile plans and the difference between the two approaches explains their very different fates. The mark of a Budget’s effectiveness lies in how far it can resist political pressures pushing it in the direction of populist expenditures. By that mark, the 2024-25 Budget passes with flying colours. Three aspects of the political situation merit a careful look from this perspective: support to states ruled by the government’s allies, especially those in Bihar and Andhra Pradesh; the ‘jobs situation’; and transfers to states. The management of these three issues has been careful and not fiscally imprudent.

In the past two-odd years, the political clamour on ‘jobless growth’ had captured the minds of certain sections of the Indian elector­ate. Given the electoral outcomes, there was bound to be some spending on this score. The government chose to commit ₹2 lakh crore spread over five years for three schemes under the prime minis­ter’s special package. These are not wanton expenditures to placate anyone but careful interventions in the labour market to foster job creation.

The same care marks the resources promised to Bihar and Andhra for their economic development and special needs. Instead of conceding ‘special packages’, the government has chosen to help these states by promising funding for specific projects. The total sum involved, as gleaned from the finance minister’s speech, is ₹73,900 crore.

The total for these two commitments—jobs programme and finan­cial resources to Andhra and Bihar—amount to ₹2.74 lakh crore, roughly 5.7 per cent of the total expenditure of the Centre in 2024-25. This is less than the sum of major subsidies and represents better spending priorities. It is a mix of infrastructure, flood control, and power projects apart from the development of a new capital in Andhra Pradesh, a city which can become an economic engine in due course.

A day after the Budget, the promise of these resources to Andhra and Bihar led to a furore in Parliament and outside by political parties from other states who alleged the Centre had been ‘partial’ to the two states without giving projects and financial resources to others. This is, at best, an argument of convenience. As mandated by the Finance Commission, every year the Centre transfers large dollops of its revenue—taxes and duties—to the states. In 2024-25 this devolu­tion will amount to ₹12,47,211 crore. This is a figure that has grown by 13 per cent over the previous fiscal and amounts to almost 32.5 per cent of the Centre’s gross tax revenue. The problem with state governments is that they are left with precious little after they meet their committed expenditures. If one adds the populist spending by parties ruling these states—promises that have to be met as they were made during the heat of electioneering—one only stares at dire economic straits. As is the wont in India, the broken crockery is then thrown at the Centre with wild allegations that range from “destruction of federalism” to “states not being given their share of resources”. Even a cursory look at the 2024-25 Budget shows this to be untrue. The reality is that the Modi government has managed to keep India’s economic interests at the forefront even as it has handled the political aspects of resource allocation deftly.

In her note, HSBC’s Bhandari said that “even though fiscal consolidation should impart a negative fiscal impulse, when adjusted for better quality spending and higher RBI dividend, the fiscal impulse is marginally positive. And that was the winning stroke—the art of lowering the deficit, but not the growth.” That artful jugglery is a product of political circumstances, cramped fiscal space, and the endless clamouring for money by special interests. And yet, India continues to grow year after year.

Budget 2024Economic stabilityJobless growthjudicious spendingMacroeconomyNirmala SitharamanOpenomics 2024