Budget of signals
India’s finance minister P Chidambaram has succeeded in controlling the country’s fiscal deficit and averting a sequence of the following events: a credit rating downgrade, a fall in the rupee and an outflow of capital.
But it is important to realize he hasn’t addressed the structural reasons why the fiscal deficit was out of control. What he did was to freeze almost all government spending other than salaries. So the defence budget was eviscerated, subsidies held back and everything from overseas assistance to new paper clips put on hold.
This is not a sustainable way of doing things. It was an emergency action by the finance minister to get out of the immediate financial rut that the government had slipped into.
Underlying this emergency budget action, however, was the subtext of what the Congress-led ruling coalition expects the budget to metamorphose into once it gets the chance. And that subtext was the same old tax and spend line of all United Progressive Alliance budgets.
Chidambaram signalled this in various small ways. He raised taxes on the rich. He increased social outlays which the country can ill-afford. He put off, once again, settling the Vodafone retroactive tax dispute. His ministry desperately wants to armtwist Vodafone into paying, but fears the repercussions on foreign capital inflows at a time when India is running a record current account deficit. Soaking multinational firms is politically the most expedient financial act — they have no constituency inside India. Hence the sudden question mark over the Mauritius tax treaty.
But all of this means that the fundamental reasons why India is facing such a massive fiscal problem are being left untouched. Government subsidies and social outlays are too high. The revenue base remains too narrow. Chidambaram is tinkering with those problems.
Growth will inevitably suffer given that the government has pruned its own expenditure so much, but failed to persuade the private sector to fill in the gap it is leaving. So 4.5 per cent growth is now quite possible.
What New Delhi seems to be gambling on is that the international environment will turn around for India. Oil and commodity prices in general are expected to soften through the year, say firms like Goldman Sachs and J.P. Morgan This will allow interest rates in India to fall and, bang, the system begins to enter a virtuous cycle. This would allow the budget to be both fiscally sound but also growth inspiring.
What is notable, of course, is that the future of the Indian economy is now dependent on what happens outside the control of the government and, indeed, beyond the shores of India. Sadly, the standard condition of a third world nation.