FY23 no year for fiscal consolidation

By Indranil Pan
The economic backdrop against which Budget FY23 will be prepared remains full of challenges, with an accompanying risk of getting aggravated given all the uncertainties that prevail. The US Fed is leading an aggressive monetary tightening cycle. Monetary policy across the world, including India, remains at cross-roads. RBI has consistently indicated that its monetary policy reaction function is dependent principally on domestic conditions.

With output gap remaining hugely negative and with retail inflation broadly at the 5% mark, RBI has stayed clear of any suggestions of tightening monetary policy, save coming out of the excess liquidity pushed into the system because of Covid-19. However, if the US Fed tightens aggressively, there is every chance that RBI may have its hands tied and will have to raise its policy rates, thereby jeopardising the recovery momentum. The economy was slowing over many quarters before Covid-19, implying structural impediments at work.

With Covid-19, these have probably deepened and the economy would thus need to be on the policy crutch for the full recovery.  And this is where we think that the government should rise to the occasion and use fiscal policy to the best of its ability and push economic growth.

The advance GDP estimates (AE) indicate India is likely to grow at a real rate of 9.2% in FY22. The key worry is the weak private consumption demand and the still frail consumer sentiment. The share of private consumption in GDP has been falling since Covid-19, and it is estimated to be lower than the pre-Covid-19 level by 2.9% at end-March 2022.

At constant prices, per capita GDP in FY22 is estimated at Rs 1,07,801, lower than the Rs 1,08,645 recorded in FY20. Per capita consumption at FY22 in constant prices is also estimated to be lower than FY20’s. Thus, the economy seems to have a demand problem at hand, and this is where the government policies need to focus on at this point, especially as the comfort of lower interest rates may soon be a thing of the past. 

The government’s policy response, post Covid-19, has been to boost the production sector and help direct credit to the MSMEs through ECLGS. The missing link, however, is the demand-side story and thus getting private investment back on track merely through the enablers of the PLI scheme and lower corporate tax credits may not work as the industry continues to work with a low capacity utilisation level.

Corporate tax rates had been reduced to attract global businesses that were leaving China, but there is not much evidence of success here. The Budget will thus have to provide support to consumption demand. With the Omicron taking the centrestage, the need for financing lives and livelihood also possibly continues. With consumption demand a function of one’s income, this also means that job creation will need a boost.

There is some evidence that the unemployment rates have gone back to the pre-Covid-19 levels. However, the fear is that people who lost their jobs during the peak of the Covid-19 may have entered the labour force at a lower wage than their previous jobs. Rural wage growth remains low in nominal terms and is also negative in real terms, thereby creating a question mark on rural consumption. FMCG companies say that they are already feeling the pinch. MNREGA will once again require large resource outlays, given that the demand for employment is much higher than employment man-days generated.

A similar employment guarantee scheme may also be warranted for the urban areas.  Capital expenditure allocation in Budget FY22 was at 2.5% of GDP. However, the performance on ground has been weak; just about 50% of the allocation has been spent till November. The government needs to identify the areas of impediment, including issues on land acquisition and work on resolving the same.

The other areas that were crying for attention even before Covid-19, but have become even more relevant after the crisis are health and education. Unless capacity is built up, maybe through public-private participation, the promised demographic dividend will be wasted, and it would have a severe impact on productivity down the road. In a similar vein, efforts at reskilling need to be boosted urgently for labour to be absorbed in the newer growth areas.

This is unlikely to be achieved in just a year, but a start must be made. No doubt, the required resources will be difficult to garner, but the advantage will once again possibly come from a high nominal growth boosting tax revenues. Adherence to disinvestment targets and asset monetisation targets will be important. Overall, FY23 will not be the year of fiscal consolidation.

My calculations indicate that the Budget may be able to target a GFD/GDP ratio of 5.8% in FY23, but with the GFD absolute value at around Rs 15.4 lakh crore, almost equivalent to that of FY22. The borrowing programme of the government will remain elevated for the next year too, at around Rs 12.5 trillion for the Union government alone, but a fiscal openness probably is the only chance now for providing a stability to the growth process in India. 

Chief economist, YES BankViews are personal