The Union Budget once again offers an opportunity to the finance minister to provide tactical impetus to the Indian economy, which has shown remarkable resilience in the past few months and seems poised for a phase of growth. In spite of the listless global economy and the adverse impact of the monsoon on the kharif crop, India registered a growth rate of 5.8 per cent in July-September 2002 as compared to 5.3 per cent in the corresponding quarter of the previous year.
It may be interesting to discern the broad trends in the economy and target budget reforms to strengthen the growth drivers and eschew the negative forces. In the last few months, the growth has been primarily driven by the manufacturing, trade and finance sectors. These trends have been buttressed by softer interest rates, increased off-take of non-food credit, better performance of core industries and improved growth of exports. The economy has also witnessed a continued consumption led push towards growth-driven by growing middle- and higher-income groups.
The continuing process of restructuring in the manufacturing sector as it gradually becomes more competitive in a global context, and the strong consumption-led growth reflected in the surge in the retail finance sector, are likely to be key features of the economy. The budget will have to look at ways of facilitating growth here.
However, the high fiscal deficit and the lack of an enabling environment for infrastructure put negative pressures on economic growth. External factors, such as possible oil price shocks and uncertainty about recovery of the world economy, also pose significant risks.
In this scenario, fiscal consolidation and revival of investment sentiment are key focus areas for the FM. Despite fairly impressive fiscal performance till December 2002, the year is likely to end with high gross fiscal deficit-to-GDP ratio, certainly in excess of the targeted 5.3 per cent. Lower than expected inflows from disinvestment and additional expenditure on drought relief programs are among the main reasons for the high fiscal deficit this year. The country, however, would like to see a sustained thrust towards fiscal consolidation through expenditure control, especially revenue expenditure such as wages and salaries and pensions and retirements benefits and also on subsidies on food and fertilisers. The fiscal deficit issue needs to be tackled aggressively at the state level as well with curtailment of non-plan expenditure.
On the revenue side, tax reforms, including rationalisation, are a major area requiring considerable focus. The government must continue to focus on broadening the tax base, building upon the initiatives taken in earlier years. Key areas could be simplification of tax laws and more efficient administration to achieve greater compliance and higher tax collections. Further, large-scale rationalisation of procedures for indirect taxation would improve compliance and reduce costs to industry, enabling it to be more competitive.
As the government’s mid-year review has pointed out, disinvestment is an integral part of the reform process. It must not be forgotten that the compelling logic behind the public sector reforms was the urgent need to reduce fiscal deficit levels. But the disinvestment process has a more far-reaching impact than a mere reduction in the fiscal deficit levels. It is a powerful tool that the government must be able to wield with maximum impact. Not only does disinvestment bring private sector to the fore with its concomitant efficiencies, the process itself helps create enthusiasm in the capital markets and increases its depth. On the other hand, uncertainties over the disinvestment process can have an adverse impact on market enthusiasm and even the flow of foreign investment into India. *
The disinvestment initiative needs to be extended to the state level as well. Development of appropriate mechanisms for dealing with tariffs and labour are critical for progress at this level.
The government, however, will continue to have to play a major role as initiator of major investment projects, particularly in the core and infrastructure sector, which have the potential to stimulate growth. I clearly see a role of the government as initiator and sponsor and even as a large investor in critical infrastructure, public utility and agriculture infrastructure projects. These projects would need to be implemented with public-private partnership. The success of this route is already being seen in the golden-quadrilateral project. It is this kind of public-private partnership which the government needs to focus and initiate policy action to revive investment and growth.
Priority must be given to the revival of investment in areas that are critical to overall economic growth, such as power, roads, ports and urban infrastructure. Given that agriculture has suffered this year, investment in agricultural infrastructure should be accorded high priority. Other agricultural reforms like agro-corporatisation and proper end use of agricultural subsidies must be implemented. As a long-term reform measure, the government could think in terms of giving an impetus to agriculture particularly through creation of world-class storage facilities with private sector participation, including FDI. This would go a long way in improving our food grain and other agriculture produce exports.
Union budgets have always been very supportive of the software sector, given its growth potential. In the forthcoming budget, the government should extend incentives particularly to the area of transaction processing. This would encourage the growth of Indian outsourcing services providers, capitalising on the global demand for high quality outsourced back-office processing and customer handling services. The government should continue to facilitate the growth of the housing sector.
In the banking sector, there are several initiatives that the government may take to facilitate its growth and development and ability to meet the needs of all sections of customers. It should encourage flow of private capital into the sector, to support its growth and bring about greater efficiency in operations. In several areas, there is a case for fiscal incentives to align the banking sector’s operations with national objectives in a profitable and efficient manner.
The government should focus on greater transparency and accountability in the payment system, through such measures as the use of debit and credit cards, to reduce the volume of unaccounted transactions and the creation of fresh currency and the costs associated with it. Reducing the dependence on cash would reduce transaction costs across the payment chain, and improve tax realisations. This could in fact be extended from plastic payment devices to electronic payment channels.
In recent months, the banking sector has demonstrated a strong determination to resolve the problem of non-performing loans by initiating aggressive recovery action under the new Securitisation Act. The government could aid this process by providing taxation reforms on the lines of countries like Taiwan and Korea to give an impetus to the speedy recovery of financial assets and help the growth of the asset reconstruction companies in their initial stages.
The reforms could be in the form of allowing contribution towards initial capital of ARC as business expenditure and tax exemption on income in the hands of the ARC to remove any double taxation issues. The FM could also look at allowing deductions on accelerated provisions done by banks against their non-performing loans to encourage balance sheet strengthening and NPA clean-up.
Banks are playing a major role in providing housing finance along with the housing finance companies. Today, housing is probably the single highest driver of the Indian economy. The government needs to recognise this and accord similar status to banks as is accorded to housing finance companies with respect to special reserve deductions under the Income Tax Act on the long-term housing portfolios of banks.
The real challenge before the FM in the overall context is to use the Budget as an opportunity to put in motion a regime of policy measures and economic priorities that will accelerate economic growth on a sustainable basis in the coming years.
The writer is Managing Director and CEO, ICICI Bank