Prune some schemes to manage the fiscal deficit

While it is unlikely that the programmes will be completely shelved 18 months away from general elections, we believe it is important to understand what the sunset strategy will be for temporary support programmes.

A sense of déjà vu marks how events after Budget 2022-23 have played out, when one looks back at events after the 2020-21 Budget. Then, it was Covid-19, and now it is the Russia-Ukraine conflict. Both have rendered budget assumptions invalid. The conflict also threatens to break the early-but-sustained economic momentum that India and other parts of the world, particularly the West, gained from the vaccination drive, which promised a way out of the economic difficulties due to the pandemic.

Data shows almost 800 million have benefitted from PMGKAY. This covers almost 60% of the population, and with focused targeting, the scheme could be scaled back to support 40% (Diwakar Prasad/HT PHOTO)

Through Covid-19, the Indian government was well served by the barbell strategy, which included food and cash subsidies and price relief to those who lost their livelihoods while providing credit access, cheaper funding and cash flow relief to businesses and richer people. This two-pronged approach meant increased fiscal largesse was accessed through budgetary and non-budgetary channels. This helped put a floor on potential economic losses that the country might otherwise have experienced.

In 2022, even as the economy recovered, the fiscal picture deteriorated significantly even before the new financial year began in April. This was primarily due to a rising import bill for petroleum products, fertilisers, and the Pradhan Mantri Garib Kalyan Anna Yojana (PMGKAY), a food security welfare scheme extended to support vulnerable households to counter the inflation shock. The government has extended the scheme till December, spending an additional ₹40,000 crore per quarter. Cumulatively, it has spent ₹3.4 lakh crore ($42 billion), running PMGKY over and above the food subsidies provided in the Food Security Act (FSA).

Moreover, a bigger shock has been felt in the fertiliser subsidy extensions. The government more than doubled the budget to keep fertiliser prices stable to prevent significant increases in the cost of food production. As a result, the cost of fertiliser subsidies annually has risen to more than ₹2 lakh crore, potentially approaching ₹2.5 lakh crore. Similarly, on petroleum products (gasoline and diesel), the government has not increased subsidies, but sacrificed revenues by cutting excise duties to keep prices steady. This has meant that revenue has been lost to control inflation.

Taken together, over ₹3 lakh crore of subsidies and tax cuts have been extended to mitigate the impact of the Russia-Ukraine conflict, which poses upside risks to the budgetary balance, although those risks have been mitigated by the buoyancy in tax revenues. Indeed, direct taxes and Goods and Services Tax collections have risen strongly, thanks partly to relatively high inflation, helping to offset the hit to fiscal balances. Still, there is a challenge as goods inflation eases at the margin, economic activity slows, and nominal growth moderates. Hence, going into the next Budget is a challenge envisaging a scenario where tax intake can rise by ₹3-3.5 lakh crore again, thus making the residual fiscal space non-existent.

There is also a more significant issue regarding the role of entitlements and subsidies in terms of mode and scale. While the positive spillovers of PMGKAY helped the most vulnerable households during the pandemic, it is worth considering the need for scale and nature of the programme in the post-Covid-19 economy. As Singapore’s senior minister Tharman Shanmugaratnam once remarked, the role of government is to act as a trampoline that helps its citizens to bounce back when their economic conditions deteriorate. Those segments of the population who are bouncing back slowly from the pandemic should continue to be supported; hence, the support could be more targeted.

Government data shows almost 800 million have benefitted from PMGKAY. This covers almost 60% of the population, and in the post-Covid-19 phase, with focused targeting and information about economic conditions, the scheme could be scaled back to support 40% of the population, targeting 560-600 million of the most vulnerable, while also providing families with the option to receive a cash subsidy of ₹2,500-3,000 a quarter, rather than additional free rations monthly. This could help with the scale of the programme while also providing optionality for the vulnerable, who may have enough food available through the traditional subsidies under FSA and other schemes run by the states.

Ultimately, as the economy grows, the share of food and fertiliser subsidies will continue to fall structurally. However, India’s fiscal deficit remains high, and budgetary discipline will play its role with the cost of funding rising globally. It can be achieved by slower growth in revenue expenditure while continuing to grow capital expenditure. Hence, right-sizing various welfare schemes without impacting the vulnerable, including food and fertiliser subsidies, will be critical in managing the level of debt. While it is unlikely that the programmes will be completely shelved 18 months away from general elections, we believe it is important to understand what the sunset strategy will be for temporary support programmes.

Rahul Bajoria is a managing director and head, EM Asia (ex-China) Economics Research, BarclaysThe views expressed are personal