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Challenging Time for 2020-21 Budget Preparation

JANUARY 07, 2020

By TIOL Edit Team

CRAFTING the forthcoming Union budget for 2020-21 is the toughest challenge for Finance Minister Nirmala Sitharaman against the background of growing global and domestic uncertainty. Any dynamic risk factor taking a turn for the worse can make budget arithmetic go haywire. To appreciate this, reckon three factors clouding the already uncertain environment.

These are: 1) USA-Iran tension bordering on risk of armed conflict; 2) unforeseen impact of persisting protests over citizenship issues on economic activity and investment climate and 3) the enhanced risk of skirmishes between India & Pakistan due to deteriorating bilateral relationship.

It is very rare to foresee the dynamics of these factors three weeks before the budget. We presume Mrs. Sitharaman would present budget on 1st February as usual. The possibility of budget getting deferred in the event of any war can't be ruled out. We can only pray and hope for peace & prosperity at all levels.

Armed confrontation between the USA and Iran can send commodity prices soaring. This would hit India hard as it meets lion's share of its crude oil requirements through imports. As it is, the crude prices are hardening after killing of a top Iranian Commander by a drone flown by the US defence forces. Rupee is also coming under increasing pressure in the foreign exchange market. Depreciating rupee increases import bill and fuels inflation rate.

Experience shows that prices of other imported commodities especially fertilizers and coal also move up in tandem with rise in crude prices. Rise in price of imported commodities not only impacts current account deficit (CAD) but also fiscal deficit.

There is trade-off between rise in commodity prices, indirect tax revenue, exchange rate, inflation and subsidies. How these five factors would play out and impact budget estimates is anybody's guess.

According to a working paper released by Reserve Bank of India (RBI), "if a crude price shock hits the Indian economy, the CAD to GDP ratio will rise sharply irrespective of a higher GDP growth; and a 10 USD/barrel increase in oil price will raise the inflation by roughly 49 basis points (bps) or increase the fiscal deficit by 43 bps (as a percentage of GDP) if the government decides to absorb the entire oil price shock rather than passing it to the end users".

Any military flare-up in the Middle-East impacts our exports especially of petroleum products that refineries produce from imported crude. As it is, the subdued growth in exports has long been a cause for worry.

The challenge of presenting a growth-reviving budget within defined fiscal & inflationary discipline gets complicated from the task to implement recommendations of the15th Finance Commission, which presented its first report submitted last month.

As its report is secret at present, we don't know whether it has recommended radical change in sharing of tax resources between the Centre and the States. Whatever the binding recommendations, they would impact the Central Budget.

If recommendations also cover centrally sponsored schemes, as is likely, then its implementation would require changes on the expenditure side. Add to this the scope of GST council recommending hike in GST rates.

Amidst such a flux, the elbowroom for appeasing different stakeholders gets extremely limited. Finance Minister can thus skip announcement of any new populist schemes. Such ideas can be kept for the year preceding the Lok Sabha polls.

She should, however, consider creating an oil price stabilization fund. This facility can be used to manage/cushion transmission of unbearable spurt in crude prices that would become inevitable in event of any major armed conflict in the Middle-East.

The scope for hiking capital expenditure to perk up growth of gross domestic product (GDP) depends on the estimation of fiscal deficit for current financial year. Everyone agrees that fiscal deficit would get breached the budgetary estimate. If the Government does not increase roll-over of payments such as fertiliser subsidy arrears to next year & keeps the off-budget transactions to barest minimum, then revised fiscal deficit might well be more than 1% of GDP.

On the non-tax revenue side, the Government should consider divesting unproductive real estate. It should also fine-tune existing streams such as disinvestment of public enterprises and revenue from telecom & licensing of rights to explore and develop natural resources.

On the reforms side, Mrs. Sitharaman should be liberal in announcing long-delayed tax and non-tax reforms. What is more important for the economy is to get signals for clear-cut and stable business environment. The top priority should be two-fold: 1) converge policy initiatives that enhance the total factor productivity (TFP) in all sectors and 2) revive private sector investment.


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