A Contractionary Budget Under Demand Depression Isn’t Good News

The union budget for 2021-22 was placed in the parliament on the February 1. This year’s budget has been formulated in the context of unprecedented misery in the economy following the Covid-19 induced lockdown. Many economists have argued that there is an urgent need for a large fiscal stimulus to boost aggregate demand in the economy in this extremely challenging time. Many people have lost jobs and income for more than six months. Many have lost their past savings while others have become heavily indebted due to the longer than required lockdown. There was a demand for compensatory cash-transfer for the income loss of people. The current unemployment rate is extremely high in the economy. There was a need for universal employment as a last resort programme. The poor and vulnerable section of population suffered the most. There should have been a provision for free food-grain supply to them as well. But, none of these has been done in this budget.

There have been few direct tax concessions to the richer section of the population and to the business class. Meanwhile, the pro-poor social sector expenditures have in fact been reduced and the aggregate expenditure of the Union government is set to reduce by more than 2% of the Gross Domestic Product (GDP) of the country.

many ministries and departments have faced serious cuts in expenditure from the approved budget including the Union ministries of agriculture, education, tribal affairs, women and child welfare, social welfare, and urban development and so on.

The 9.5% fiscal deficit in 2020-21 (revised estimate) and 13.5% increase in the revised estimate of expenditure over what was budgeted last year may initially give an impression of expansionary fiscal policy. However, it is not true for the following reasons. Firstly, the expected GDP of 2020-21 is now 13.4%, lower than that during the presentation of last year’s budget because of the negative growth rate following the lockdown. If we calculate the fiscal deficit of 2020-21 as percentage of earlier expectations, the fiscal deficit would be 8.2% and not 9.5%. It has become 9.5% because of the lower GDP (the denominator). Secondly, according to the revised estimates, the revenue shortfall has been more than 2% of GDP in 2020-21 as compared to what was budgeted last year. Thirdly, the expenditure increase has happened only by less than 2% of GDP (if we divide by the same GDP) despite the Atmanirbhar Bharat Abhiyan packages.

Out of the Rs 4 lakh crore extra expenditure that the finance minister talked about, Rs 3 lakh crore extra spending would happen because of the subsidy to food corporation of India (FCI). Rs 50,000 crore extra has been allocated to MGNREGA, loan to Railways for Covid-19 related resource gap (Rs.38,000 crore) and Rs 28,500 crore for PM Jan-Dhan Yojana during the lockdown. These three things happened because of the lockdown. On the other hand, many ministries and departments have faced serious cuts in expenditure from the approved budget including the Union ministries of agriculture, education, tribal affairs, women and child welfare, social welfare, and urban development and so on. Moreover, the revised estimate of aggregate expenditure is inflated. Till December 2020, in the first nine months of the current financial year, the total expenditure of the central government has been only Rs 22.8 lakh crores and the revised estimate for the entire year is Rs 34.4 lakh crore. So, in the months of January February and March, the government is expecting to spend 11.6 lakh crore, which is more than half of what they could spend in nine months under extreme crisis. Clearly, the actual spending would be much less than the revised estimates.

this is an expenditure contractionary budget when the need is to inject extra demand into the economy through an expansionary fiscal policy.

However, the actual revenue receipts for the year 2020-21 would also be lower than what has been projected in the budget. The government expects to raise Rs 15.6 lakh crore as compared to the actual revenue receipts of less than Rs 11 lakh crore in last nine months (till December 2020). Therefore, the actual expenditure expansion in 2020-21 is likely to be negligible even under this severe demand depression; the fiscal deficit to GDP ratio would increase in 2020-21 primarily because of revenue shortfall and because of the reduction in GDP.

As far as the budget for 2021-22 is concerned, the expectation is that the economy will bounce back with a 14.4% nominal growth and 11.5% real growth. Interestingly, even after 14.4% nominal growth rate, the nominal GDP of India would still be lower than the nominal GDP of 2020-21 as was expected during last year’s budget. Hence, this GDP growth is expected to happen primarily because of the low base following the negative growth rate this year. Even if we believe in the revised estimates of government for this year, the budgeted aggregate expenditure for 2021-22 is merely less than 1% higher, in nominal terms, than the revised estimates for this year. If the GDP rises by 14.4% and the expenditure rises by less than 1%, the central government expenditure as proportion of GDP is bound to fall drastically. The total expenditure is set to fall from 17.7% of GDP in 2020-21 to 15.6% of GDP in 2021-22. The aggregate revenue receipt is expected to rise by 15% in 2021-22 as compared to the revised estimates of 2021-22. The intention is to bring down the fiscal deficit to GDP ratio from 9.5% to 6.8% in 2021-22 by massive cuts in expenditure to GDP ratio. Therefore, this is an expenditure contractionary budget when the need is to inject extra demand into the economy through an expansionary fiscal policy.

If we compare the budget estimates of 2021-22 with the revised estimates of 2020-21, we see that only the capital expenditure is increasing by 26%, which is a welcome step. However, the aggregate revenue expenditures net of interest payment would actually fall by massive 8.6% in nominal terms wherein the revenue receipts are expected to grow at 15%. The expenditure on central sector schemes would be reduced by almost 20%; resources to public sector enterprises would also come down by around 10%. The total expenditure would be reduced by more than 2 percentage points of GDP in 2021-22. Naturally, there would be huge demand contraction in 2021-22 due to the contractionary fiscal policy in order to bring down the fiscal deficit to GDP ratio in India. The GDP growth would be lower than expected (despite lower base) and the profitability, private investment, employment would continue to suffer due to lack of aggregate demand even in 2021-22.

the health expenditure has been actually set to fall as proportion of GDP even under this severe health crisis in the country.

The health expenditure including water supply, sanitation and nutrition is claimed to grow by massive 137% but, if we leave aside water supply, sanitation and nutrition and the finance commission grants, the health expenditure would increase only by 11%. Additionally, Rs 35 thousand crores would be provided for Covid-19 vaccination in 2021-22. Apart from this one-time vaccine expenditure, the health expenditure has been actually set to fall as proportion of GDP even under this severe health crisis in the country.

As far as the taxation side of the budget is concerned, the direct tax revenue (profit and income tax) shortfall in 2020-21 has been more than Rs 4 lakh crores. A few direct tax concessions for the richer section of population have been announced in the budget speech, but there is no reduction in the GST rates or petroleum tax rates for the common people. The GST shortfall has been Rs 1.75 lakh crore 2020-21 due to lack of demand for goods and services and reduced purchasing power of people. However, there has been a gain in central excise duty to the tune of Rs 94,000 crore in the lockdown year primarily because of the increased indirect taxes on petroleum and diesel. This would be not only inflationary but, also more reduction in direct taxes and less reduction in indirect taxes would increase inequality between the rich and the poor. The central government is collecting lot more cess (tax on tax) than before, which is not part of the divisible pool and the Centre does not have to share it with the states. As a result, despite adhering to the 15th finance commission’s recommendation of 41% vertical devolution, the aggregate transfer of resources to states and Union Territories has come down by more than Rs 40,000 crores in this budget as compared to the revised estimate of last year.

The Union government set a target of selling the public sector assets worth Rs 2.1 lakh crore and could earn Rs 32,000 crores from disinvestment in 2020-21. This year, a disinvestment target of Rs 1.75 lakh crore has been set again, including the privatisation of Air India, BPCL, Shipping Corporation of India, Container Corporation of India, IDBI Bank, BEML, Pawan Hans, and Neelachal Ispat Nigam Limited, etc. Two more public sector banks and one insurance company would also be privatised after required constitutional amendments in the Parliament and so on and so forth. We must remember that mere hand-over of public sector units to the domestic businessmen may help in showing lower fiscal deficit numbers according to our current accounting norms, but they do not add anything to the aggregate domestic demand taking the public and private sectors together. So, these are also not going to boost the aggregate demand by an iota under a situation of severe demand depression. In the process, the precious public assets, built by the tax payers’ money over the years in the past, would be privatised forever. The LIC of India is also being made 74% open to the foreign investors.

Therefore, the intention of the central government is to reduce fiscal deficit in 2021-22 by compression of expenditure as proportion of GDP and by massive disinvestment. In a nutshell, therefore, this is a contractionary budget under severe demand depression in the country. This would lead to lower (than expected) growth, higher unemployment, lower profitability and higher inflation and higher degree of inequality in the face of a crisis in Indian economy.