Government Budgets

A prescription for revival

Note4Students

From UPSC perspective, the following things are important :

Mains level : Paper 3-Measures to revive the Indian economoy.

Context

The root cause of the present malaise in our economy is the “death of demand”.

How demand matters for growth?

  • The relation between demand and growth: Growth in any economy depends on the growth in demand, both for investment as well as consumer goods.
  • How slackened demand leads to a vicious cycle: If demand slackens, then the installed capacity will not be fully utilised, the fresh investment will not take place, employment will slacken and the economy will get caught in a vicious cycle, as we are experiencing today.

What needs to be done to break the vicious cycle?

  • What sequence to follow in reviving demand? The basic challenge, therefore, is to revive demand in the economy in a sequence where the revival takes place first in the investment goods sector, automatically followed by a boost in demand for consumer goods through enhanced employment opportunities.
  • Past precedents: This is the prescription we had followed in the Atal Bihari Vajpayee government when we were faced with the East Asian crisis and the post-Pokhran global economic sanctions soon after the government assumed office in March 1998.

Demand in India

  • No dearth of demand in India: In a developing country like India, there is no dearth of “good” demand.
    • We still have to provide so many goods and services to our people in order to improve their “quality of life”.
  • Need to create new infrastructure: Simultaneously, we have to create new infrastructure and improve the existing ones to reduce the transaction cost in our economy and make it more competitive.
  • How infrastructure creation lead to the creation of demand: The emphasis on the construction of roads of all kinds — rural, state and national highways, the new telecom policy, the investment in railways, the emphasis on housing construction and development of the real estate, the improvement in rural infrastructure and reform in the agricultural sector were all meant to lead to the creation of demand in the economy.
  • Creation of the virtuous cycle: The creation of demand should be in such a way that the demand for investment goods picks up first and faster, which creates the virtuous cycle of full capacity utilisation.
    • Demand for consumer goods: Demand for investment goods is followed by fresh investment for new capacity creation, larger employment opportunities of various kinds — unskilled, skilled and highly skilled — which reached money into the pockets of people leading to a surge in demand for consumer goods.

How the government should deal with the situation

  • Deal with the demand side instead of supply-side: All commentators are agreed now that instead of tackling the demand side government is dealing with the supply side.
    • Tax relief to corporates: For instance, if, instead of wasting a precious amount of Rs 1,45,000 crore on tax relief to a limited number of corporates the government had spent that money on rural infrastructure and agriculture and a part of it on railways and highways, it would have led to the creation of demand both for investment goods as well as consumer goods.
  • Issue of sticking to the fiscal deficit target: There is also the issue of resources. The government claims that it has stuck to the fiscal deficit targets.
    • But the provisions of Fiscal Responsibility and Budget Management (FRBM) Act have been treated in a cavalier manner by all subsequent governments.
    • What was the basic purpose of the act? The basic purpose of the act was to eliminate the revenue deficit completely within a short period of time and live with a limited fiscal deficit.
    • The original FRBM Act, therefore, mandated that revenue deficit should be eliminated completely and the rest of the fiscal deficit should be limited to one per cent of GDP.
    • In special circumstances like today, the fiscal deficit should be allowed to go up to even two per cent of the GDP, which will mean an amount of Rs four lakh crore.

Figures of the latest budget and need for the reforms

  • Fiscal deficit figures: The government has taken credit in the Budget for the fact that it has successfully restricted total fiscal deficit for this fiscal to 3.8 per cent and for next fiscal at 3.5 per cent of the GDP.
  • The issue involved in fiscal deficit figures: The revenue deficit for the current fiscal is 2.4 per cent of the GDP and for the next fiscal it is 2.7 per cent. In other words, minus the revenue deficit the fiscal deficit is only 1.4 per cent of GDP for this year and for the next year, it is 1.7 per se.
  • Need for managing the expenditure: So, the real villain of the piece is revenue deficit and not fiscal deficit per se.
    • Need for the reforms: It is clearly the government’s responsibility to manage its expenditure and carry out reforms in it, including austerity in expenditure.
    • How will the reforms help? Controlled fiscal deficit will make more money available in the market for private sector investment and help RBI in reducing interest rates — things which will have an overall benign influence on the economy.

Conclusion

A lot of other things apart from austerity majors will have to be done, no doubt, like preventing companies, especially banks from failing, to further strengthen the growth impulses but in the present situation, the key is government spending and in the desired sequence.

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