COMMENTARY

Indian Economy in 2011: Dualism in Policy Formulation
Pulin B Nayak

Our policymakers face a dilemma: should we have adequate food and nutrition for all or should we have world-class airport terminals? In an ideal world, one could possibly have them both. But if there are limited resources and there is a question of setting priorities, then surely it should be possible to hold the view that the former should get precedence. Well-trained neoclassical economists can often employ much abstract modelling to prove the opposite.

1 A View from the Economic Survey

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Pulin B Nayak (pulin@econdse.org) teaches at the Delhi School of Economics, Delhi University.

he Economic Survey 2010-11 has drawn a picture of the Indian economy in the past year from which one may legitimately draw some comfort. The economy has substantially withstood the shock of the collapse in world growth arising due to the global financial crisis of 2007-09, the ripple effects of which continued through 2009-10 and indeed persisted well into 2010-11. The problem was compounded by two years of particularly poor agricultural performance during 2008-09, when in fact there was a negative growth recorded, and 2009-10. Under the circumstances an overall growth rate of GDP of 8.6% during 2010-11 would seem to be very creditable. There are many other points of comfort. Foreign exchange reserves in December 2010 stood at $297.3 billion, which is the fourth highest after China, Japan and Russia. From a level of Rs 50.95 per US dollar on 31 March 2009 the rupee appreciated to Rs 45.14 per US dollar by end March 2010. This was largely brought on by foreign institutional investor (FII) inflows, driven no doubt by India’s relatively strong macroeconomic performance and better return as compared to other alternative destinations across the globe. The latest market rates, as on 11 March 2011, put the $ at Rs 45.24, which means that the rupee has held steady in the international market over the past year. But lest it be thought that we are here to only sing paeans to the managers of the public finances in the country let it be said that the Union Budget 2011 has been presented under a cloud of two particularly troubling sets of conditions. First, the inflation rate in the past year has been hovering in the double-digit range, and the food inflation in particular has been too high for comfort. The Survey makes
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the following claim: “…CPIs [consumer price inflation] in fast growing countries will rise relative to CPIs in slow growing countries” (p 27). This thesis is deduced from the Balassa-Samuelson hypothesis which essentially posits that rapidly expanding economies would tend to have faster appreciation in exchange rates, but it is well known that conventional econometric tests have resulted with mixed findings for the predictions of the B-S effect. The claim would therefore seem to be far from obvious. At a minimum it ought to be conceded that the recent spurt of food inflation ought to be much better managed. The Survey states on p 26:
On 7 January 2011, for instance, onions were selling for Rs 30 in Agra and 57.5 in Delhi; for Rs 35 in Nagpur and 62 in Mumbai; for Rs 23 in Thiruvananthapuram and 60 in Dindigul….What these price differentials suggest more than anything else is not so much hoarding as the cartelisation of trade resulting in the prevention of entry of new traders. The problem needs to be tackled using our Competition Act 2002.

Well, one might ask the policymakers at the highest levels, what has been preventing them from using the Act these past nine years? Surely they need some answering to do, or is it enough that we have passed the Act and should not really be concerned about its implementation, just as we have passed, for example, the Child Labour Prohibition Act a quarter century back in 1986? The second particularly disturbing development is the daily barrage of scamtainted matters at the highest levels of the government, which really means that vast sums of public funds have been openly swindled while at the same time it is proving extremely difficult to fix responsibility. Indira Gandhi had famously remarked that corruption is a global phenomenon. Very true. The confidence of the Indian aam aadmi in bureaucratic and political probity and integrity has never really been particularly high. But it must be conceded that in the aftermath of the Commonwealth Games and the 2G scams, perceptions about probity in government have hit an abysmal low, so much so that it is clawing into the innards of our polity.
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the right to food concept. A very serious issue comes up here. The NAC has been pushing for a Right to Food Act with universal coverage. It is well known that the passage of the National Rural Employment Guarantee Act (NREGA) was brought about substantially at the instance of the NAC in the face of teething opposition from columnists and leaders of public opinion in the influential English language media. consistent with an adequate diet necessary to lead an active and healthy life with dignity”. and in a situation where is a great need to build up economic and social infrastructure. but if there are limited resources and there is a question of setting priorities. it must be desirable in India as well. one could possibly have them both. There is a huge response to this scheme amongst the disadvantaged. He has gone for continuity and stability and has opted to go for fiscal consolidation. His principal priority seems to have been to continue on the growth momentum. the argument would run.2% of GDP. Pranab Mukherjee has also proposed creating tax-free bonds worth march 19. Surely after 63 years of independence this is the least that any citizen should legitimately demand from a State that has been riding on a high growth path over the past decade and. this should be a matter of serious concern. This has to do with the political mandate on the basis of which the UPA was returned to power after their first term. But in the past five to six years there is plenty of evidence of this scheme delivering in those districts and regions where the administrators are sympathetic and sensitive to the needs of the local Economic & Political Weekly EPW populace and are willing to think creatively out of the box. But anyone familiar with the texture of political economy in India today will note that it is the passage of this act which was substantially behind the return of the United Progressive Alliance (UPA) to power two years back. 2 Dualism in Policymaking No observer of economic policymaking in India today could possibly have failed to notice the sharp divergence in the policy stance between the executive arms of the government principally housed in the ministries of finance and planning on the one hand and the National Advisory Council (NAC) on the other. Union Finance Minister Pranab Kumar Mukherjee has tried to marry the two almost unmatchable strands. Capital expenditure in recent years has been under 2% of GDP.7%.6% of GDP. as part of a basic and fundamental human right. well lower than the 52. according to some of the most voluble of the opinion-makers. For most parts in the fiscal and other major sectors. Editors of pink newspapers would however typically regard these as “stimulus” packages that are supposed to enhance efficiency because they would keep the wheels of production running. This will certainly go some way towards containing the inflationary trends witnessed in the past year. one might ask whether we must have adequate food and nutrition for all or should we have world-class airport terminals? In an ideal world. But as we know. He can be hardly faulted for this. spends less than Rs 20 a day per capita. To put the dilemma somewhat differently. The UPA government would be foolish to disregard the sentiments of a huge mass of the population. 2011 11 . In the aftermath of the financial meltdown of 2008 there was a systematic and well-orchestrated clamour from the captains of industry and from the leaders of trade chambers to be granted doles and tax concessions. Hasn’t Barack Obama been giving stimulus packages to large corporate houses in the US? Ipso facto. It can be nobody’s case that what is now the Mahatma Gandhi National Rural Employment Guarantee Act (MGNREGA) is free of corruption and does not harbour a certain degree of inefficiency. Much of the infrastructure build-up is expected to be carried out by the private sector. social and economic right of all citizens to have access to safe and nutritious food. according to the National Commission for Enterprises in the Unorgansied Sector (NCEUS). with some minor tinkering.4% of GDP in 2010-11 to 14% in 2011-12. dispossessed and women across the length and breadth of the country.COMMENTARY The credibility of any budget-making exercise must then necessarily be judged against a clear appreciation of this fact. it is business as usual. and it is only a question of reordering priorities. 77% of which. Most of the top-end economic advisors in the first group are typically pro-reform enthusiasts who are impatient with schemes directed at the poorer sections of the population. 3 Budget 2011-12 It is against this background that we ought to assess the Union Budget for 2011-12. therefore. by raising FII investment in medium-term corporate debt for infrastructure fivefold to $25 billion. with the GDP growth rate possibly moving up again to the 9% range in the coming year. then surely it should be possible to hold the view that the former should get vol xlvI no 12 precedence. down from 5. has become a major “player” in the international arena. And this when it has been demonstrated time and again that the country has the wherewithal. One must acknowledge here that the finance minister is a consummate politician and has a clear understanding of the political compulsions of the day. and under the circumstances has done a commendable job. The fiscal deficit is set to be limited to 4. The obvious tension between the views of these two opposing groups should be a point of no small importance in our polity today. But the worrying part here is that capital expenditure by the government is going to come down from 13. Self-appointed referees of fiscal control are typically secure with their well-paying sinecure jobs and they enjoy the great privilege of never having to return to the voting masses to get a true check on how representative their views are. for example. These include agricultural storage and fertilisers. But well-trained neoclassical economists can often employ much abstract modelling to prove the opposite. But he is also a great realist and an old hand at budget-making. This has been at least partly achieved by cutting overall expenditure as a proportion of GDP from 15. Public debt for the next year is targeted at 44. Tax sops have been extended to some more sectors by classifying them as infrastructure.1% this year.5% target set by the Finance Commission.4% of total expenditure to 12. The proposal insists on “the physical. is facing the toughest opposition from some of the highest functionaries of the state on the ground that it would be fiscally unaffordable. Such schemes are invariably dubbed as “populist” and are judged to be inefficient and unproductive and are argued to be fiscally unsound.

with excise duties standing reduced at 1. It is now corporation tax (3. expansion of agricultural storage capacity. But we need to go much further than this. including a substantial allocation for NABARD. it makes sense to tax value added and to pitch the tax at some uniform moderate rate. Pranab Mukherjee has set April 2012 as the deadline for implementing the Direct Taxes Code. Without that the minimum wage legislation would be a peculiar mockery of our notion of social democracy. even though at the margin there might be some trade-off involved with the growth rate. a caring finance minister has to be seen to deliver on distributive justice. supposed to be in the region of a bit more than 4. In order to avoid the phenomenon of cascading of taxes in a sequential production process. the country still awaits political acceptance of the goods and services tax (GST). possibly to the range of at least 3 to 4% over the next 10 years. He has on the whole managed to achieve a deft balancing act between competing ends. The figure for gross capital formation (investment) is in fact even higher.000 crore for infrastructure. there is a substantial stepup in the allocations for the rails. then possibly some of the following concerns. First. the government has to explicitly back up wages in all central and statefunded activities to meet at least the statewide minimum wage norms. in our view. compared to 40% in China. It is this which is at the heart of the increasing inequality of incomes as well as the growing immiserisation. more than 60% of the country’s population is still substantially dependent on agriculture.6 lakh to Rs 1. With greater rationalisation in union excise and gradual reduction of customs duties. indirect taxes at the centre now account for around 4% of GDP. Since his purported aim has been to maintain the growth momentum.COMMENTARY Rs 30. ought to be paramount. and if we must keep the fiscal deficit under acceptable levels. public expenditure on health in India has been abysmally low at under 1 percentage point of GDP for more than a half century after independence. If.5% starting this year. The overall rationale of GST seems to be in the right direction. then maybe we may have to give up some world-class airport terminals expected to be built across India. on top of a 23. and maybe have much fewer swanky malls in the mushrooming new townships all over the country. there has to be a much greater explicit push for manufacturing.6% of GDP in 2007-08. Third. and for any comprehensive reform in direct taxes one would have to wait for the implementation of the Direct Taxes Code. We should be prepared for this discomfort. agriculture now comprises under (or less than) 15% of GDP. enough to meet the expenditure requirements. roads and the port sectors. The finance minister has done well to end tax holidays for developers of special economic zones (SEZs) and companies located within such zones.8 lakh is very much welcome. On the overall position of indirect taxes at the central and state levels. They will also have to pay dividend distribution tax of 15% after 1 June this year. The services sector now accounts for more than 55% of GDP in India. vol xlvI no 12 EPW Economic & Political Weekly 12 . Yet.7% of GDP recorded for 2009-10. This is the sector that lends dynamism to an economy and offers the potential for employment generation. one can hardly take issue with Pranab Mukherjee. The broad philosophy of this rests on the received wisdom of tax theorists and practitioners across the globe. Second. After nearly 50 years of stagnation at around 3% of GDP direct taxes have only now come around to nearly 6% of GDP in the past five years. One of the aims of the Chelliah Committee was to increase reliance on direct taxes while simultaneously reducing the relative importance of indirect taxes. First. which comprises a mere 16% of GDP in India. 2011 eloquent about double-digit growth rates makes one wonder as to what is the kind of social reality they are living in.5% of GDP. It must however be conceded that this is only in the nature of a minor tweak. as a mature and sensitive finance minister. If funds are limited. but unfortunately this is not the sector in which one can expect as rapid a growth of employment generation as one can expect in the manufacturing sector. at 36.8% of GDP in 2010-11) by a long margin. among others.7% of GDP in 2010-11.5% of GDP in 2009-10. he has been much helped by the handsome savings rate of 33. Second. On the direct tax front. which are to have broad-based and moderate rates. This can only be combated by a massive influx of funds into agricultural infrastructure building. Pranab Mukherjee is to consider some serious major priorities. But we need not make a fetish about the growth rate. both companies and developers will pay a higher minimum alternate tax – charged on companies that enjoy exemptions and pay no tax at all – of 18. He has also resisted pressure from companies housed in software technology parks to extend the tax holiday on export profits beyond 2011. I think it is fair to say that through a variety of schemes and programmes. It is only in 2007-08 that direct taxes at the centre for the first time tipped indirect taxes. Union excise used to be the single biggest revenue earner till 2005-06 (3% of GDP). Three further points are in order. the increase in the exemption limit in personal income taxes from Rs 1. It is this which is at the heart of the robust growth rate in GDP of 8% plus. and this has been the guiding principle of tax policy ever since. It is only in the very recent past that the figure has tipped 1% of GDP. This is based on two simple features. Third. down from 5. keeping in view the recent spate of inflation. the finance minister has shown that he is sensitive to the prime need for substantially supporting the agricultural sector. following the pioneering work on optimal taxation by James Mirrlees. This also means that if the growth momentum is assured.3% step-up in the government’s Plan expenditure. down from nearly 60% at the time of independence. Also. It is this alone which will ensure the health of the masses in this country. Finally. of which the household sector had a savings rate of 23. arising simply from the crude HarrodDomar formulation of the expected growth rate being the ratio of the investment rate to the capital-output ratio. and interest subvention for small farmers. and not further recourse to some market-based clever health insurance strategies. This indeed informed the recommendations of the Tax Reforms Committee set up in 1991 under Raja J Chelliah’s chairmanship. and certainly the way one sees some top functionaries waxing march 19. 4 Balancing Act On the strict mechanics of budget balancing.