There is something for everyone, but there are headwinds ahead as gains from low oil prices recede

While last year’s budget could be described as ’post-demonetisation pre-introduction of GST’, this year’s is clearly a pre-election year budget. It has something for everybody: agriculture, health, education, housing, employment, salaried classes, pensioners, the small and medium sectors and infrastructure. The only segment of society that may have been a bit unhappy are those sitting on a pot of money on their investments in the equity market, especially those who would have wanted to exit. How has the FM managed to make everybody happy while keeping the overall fiscal balance not too much off the glide path?

The accompanying table clearly shows the extent of fiscal consolidation achieved in the last three years since the current government took over in 2014. The budget shows a slippage in the fiscal position in 2017-18, especially in revenue deficit, from 1.9 per cent of GDP (BE) to 2.6 (RE) of GDP — slippage of 0.7 per cent. This has occurred despite a healthy increase in tax revenue of ?42,440 crore beyond what was budgeted. Even the bonanza in capital receipt of ?1 lakh crore (against projection of ?72,500 crore) could not contain the fiscal deficit to the budgeted figure of 3.2 per cent. Furthermore, it is presumed that ONGC’s acquisition of HPCL for ?30,000 crore will have been taken into the capital receipts in the budget. ONGC, it is understood, will approach the debt market for funding the acquisition. The fiscal slippage was primarily on account of the non-tax revenue being lower by ?52,783 crore, compared to what was projected. Slippage on the expenditure side is largely on account of general services, which includes administration, defence, pension and so on. In fact the "good" expenditures — namely, social services — showed an overshooting of only ?4,000 crore and economic services showed an undershooting of the budgeted expenditure, by ?24,000 crore.

Hence the slippage cannot be justified by saying that the distinction between revenue and capital is not significant or that investment in education and health is as "good" as building roads and bridges. The data shows clearly that the slippage happened despite tax buoyancy and bonanza in disinvestment proceeds, and that the expenditure slippage was not in the social and economic services sectors.

This leads us to examine the budget estimates for 2018-19. 

Tax revenue is projected to increase by 16.6 per cent against the nominal GDP increase of 11.5 per cent, reflecting the FM’s optimism. The projection for non-tax revenue growth at four per cent does not seem to assume any significant change in transfer of dividend from RBI or expectation of improved PSUs’ dividend transfer. Also, the projection for capital receipts at ?80,000 crore against ?1 lakh crore in 2017-18, seems reasonable, in the light of the tightening liquidity conditions likely to emerge globally and domestically. On the expenditure side, overall growth at 10.1 per cent is lower than the overall nominal GDP growth and, in real terms, does not seem to reflect the impressive promises in the FM’s speech. Social sector expenditure is projected to grow at 16 per cent, and this is very welcome. In case, however, the buoyancy in tax revenue is not maintained, the curbs may unfortunately fall on the social sector.

The budget speech made all the right noises. Ultimately it will be the actual revenues and expenditures that will trigger the expected outcomes, and this depends on the key risks the budget faces.

The first risk is clearly oil prices. Just as when oil prices went down, there was a positive impact on growth and government revenues, when oil prices go up, there is a negative effect on both. If the government resorts to reduction in taxes, it will impinge on the tax revenue and the fiscal deficit. According to reports, in 2016-17 the Union government earned ?2.43 lakh crore from excise duty on oil — this was 2.45 times what it earned in 2014-15. The total revenue from oil companies in 2016-17, which includes dividends and taxes from oil marketing companies, was also nearly double that in 2014-15. At the same time, higher oil prices will add to inflationary pressures.

This brings one to the second risk — namely, food prices. The proposed intention to keep the Minimum Support Price (MSP) for both rabi and kharif crops at one-and-a-half times the cost of production will put pressure on the fiscal deficit, as subsidies may have to be increased beyond the budgeted figures.

Increased oil and food prices would put pressure on inflation, and the third risk is clearly that of inflation. Inflation will increase the cost of government’s borrowing. Tightening monetary policy would also imply that banks will face losses on their investment portfolio and their appetite for fresh government bonds may not be what it was in the last few years. Banks are already holding excess government securities and, as credit picks up, the government may find it challenging to put through the borrowing programme without pressure on yields. Increase in government bond yields would mean overall increase in lending rates just when the economy is beginning to pick up and needs affordable credit.

All in all, we are in for difficult times. The positive factors faced on account of low oil prices, low inflation, global liquidity, huge capital inflows are giving way to headwinds. Tackling the real sector by determined action to complete the implementation of stalled projects, push on infrastructure and further reforms in the power sector are the need of the hour, rather than tweaking fiscal or monetary policy to stimulate growth and employment.

 03 Feb 2018, 11:44 AM