“Good times, but not just yet”, ‘Business Line’, July 11, 2014

Finally, we have been delivered of the first budget of the Narendra Modi government. As he had largely campaigned on economic issues – termed “vikas” or development – there has been much speculation on what it would contain. And what have we seen? Without doubt, we have seen a pleasing vision for the country. However, we  were also informed in the budget speech it is meant to address the immediate situation, namely, revive growth and lower inflation. On this one is less impressed, however. Here I look at both aspects, but must first concede that Mr. Jaitley rose to the occasion, maintaining a statesmanlike posture, avoiding partisanship or even the showmanship that we have gotten so used to seeing in parliament.

                The Finance Minister’s vision for India is inclusive. He has covered agriculture and manufacturing, the small enterprises & the multinationals, and the young, women, the scheduled castes & the religious minorities. This is worth emphasising given that at election time there was apprehension of the BJP’s commitment to such a vision. There is to be urban infrastructure in a hundred ‘smart cities’, including modern sewerage, public transport and drinking water. And this is to be in place by 2019. There is to be ‘total sanitation’ too by then, and low-cost housing for the poor, though no timeline has been stated. This appears an audacious plan given the public sector’s record in India, but no one would quibble that it is of utmost relevance to the country. Then there is to be an agricultural-infrastructure fund, irrigation and expansion of storage capacity. School infrastructure and teacher training are to receive more money. Tourism has been recognised as a potential source of growth and an e-visa facility has been mooted in nine airports initially. There are to be textile clusters, green & blue revolutions, and more & improved power supply.  

                Interestingly, no major trimming of subsidies has been announced. On the other hand, some re-design of existing schemes has been proposed. Accordingly, the public distribution system is to be overhauled and the NREGA re-worked to focus on the “creation of assets” targeted on ‘agriculture and allied activities’. We have not been given a pre-view of the government’s approach to consumption subsidies such as on oil and gas though we have been told that there will be better targeting of the PDS. Clearly a trimming of subsidies, either for ideological reasons of for making fiscal space for investment, is not this government’s intention.

                 But what of the Finance Minister’s strategy? Alas, he has not presented a clear-cut one. We have been left wondering how much the vision is worth unless we have an idea of how it is to be achieved, and how good a financial backing  it has. Strategy is also important for Mr. Jaitley as he has said quite early on in his speech that “poverty is a reality” in this country and his prime minister stated early on his tenure that his will be a government that works for the poor. The question is ‘how good is a plan for the future if we don’t know how to get there?’ Ironically, the budget’s public finances are obscure. Fiscal consolidation and the inherited targets are to be adhered to. But if revenues don’t increase while the subsidies remain untouched the financial wherewithal for the vision can be queried.

                In a sense, the Finance Minister has given us the terms on which his budget should be judged by declaring what he considers the main goals for the economy. These are the revival of growth, the dampening of inflation, and the attainment of a “manageable” current account deficit. As the last has been more or less achieved by his predecessor, it leaves only growth and inflation. Here we find ourselves to be less enthused than we are about the long-term vision outlined. There is little in the budget to suggest that growth will revive and inflation dampen because of its provisions. There is sufficient reason to believe that growth slowed along with the substantial reduction in public investment since around 2008. The slowdown has also been aided by the contractionary monetary policy. The RBI itself justifies its policy by referring to the persistently high inflation of the past three years or so. And overall inflation has been high because of the acceleration in food-price inflation. For this to be addressed processes more direct and policies more frontal than what is found in this budget are needed. Mainly, there is need for a substantial public investment hike. Anyone travelling through the country can see the woeful state of our infrastructure. But why does a scaling up of infrastructure require more public investment? Because much of infrastructure is in the nature of a public good. Public goods are accessible to all free of cost, and hence the private sector has no incentive to produce them. Publicly-provided infrastructure has the potential of stimulating of growth and dampening inflation to an extent. To see this think of capital formation in agriculture. It can raise productivity levels and thus growth of output, which simultaneously has the effect of dampening prices by increasing supply.  Public capital formation in agriculture has been declining in real terms for close to two decades by now, and private investment has not replaced it. Closely monitored irrigation is going to be increasingly important even for the future as climate change accelerates. So we see how increased public investment can help in the present with accelerating growth and decelerating inflation.  

                Greater public spending on infrastructure would have been in line with the BJP’s announced concern for the poor, the improvement in which requires the creation of jobs. The building of infrastructure contributes more to generating jobs than any other public policy. We are yet to have a clear idea of how much more the FM intends to spend on infrastructure this year and how he plans to allocate it. But we know of two things for sure. Some forms of infrastructure impact the poor more closely. For instance, in an economy of the self-employed direct producer services such as water, electricity and waste disposal matter most, certainly more than airports, convention centres  and bullet trains. Secondly, apart from the public good aspect we have evidence that the Public Private Partnership mode is unlikely to be very effective here. This is the evidence from ten years of the UPA government.  

                If there is a strategy in this budget it appears to be to kickstart investment by extending  allowances to the private sector. In the current situation that is unlikely to have great success. The Finance Minister has expressed some scepticism about the role of the PPP mode but his own chosen strategy for infrastructure provision is flawed. He speaks of getting the banks to lend for infrastructure construction. Banks are not suited to this task as their liabilities are short term. In fact some part of the rising NPAs of the public sector banks stems from their having been pushed into such lending by the previous government.  Public investment can make the difference by crowding in the private by raising aggregate demand and facilitating production. I understand this would be an instance of win-win.