Economic expansion and government disintermediation

Governments are generally better at spending than they are at saving. High growth has the advantage of increasing government revenue and spending, as is happening this fiscal year. However, this is also habit-forming. If growth slows as expected in fiscal 2024, cutting government spending will be politically difficult just before a general election. Better to be cautious with your spending early on.

Indicators of current economic activity

  • Nirmala Sitharaman took over as Finance Minister in May 2019. True to form, she resolved to pick up the slack by earmarking INR 2.64 trillion (1.2 percent of GDP) in the FY 2021 budget to pay these arrears.
  • India is once again experiencing high inflation and high oil import prices. It took bravery and foresight to reduce the FD from 9.2 percent (FY 2021—the COVID-19 year) to the targeted 6.4 percent this fiscal year.

Challenges to establish a declining trend back towards an FD of 3.5 percent of GDP

  • The global uncertainty and inflation oil slick: The Ukraine standoff, which was partially mitigated by nimble Indian diplomacy resisting the boycott of cheaper Russian oil, has kept imported oil at US$77.7 per barrel in January 2023. However, China’s ongoing opening could support oil prices.
  • The high debt burden in India jeopardises fiscal resilience: Interest payments are the largest expense outlay bucket in FY 2023 (budgeted), accounting for 43 percent of budgeted Union net revenue receipts, up from 41.7 percent in FY 2021. Defence and domestic security services are followed by subsidies (food, fertiliser, and fuel) at 14% and inflation-indexed government pensions at 9%.
  • Infrastructure lags: Despite improvements in intercity highways, infrastructure remains a drag on growth. In most towns and rural areas, multimodal transportation solutions, as well as train stations and bus terminals, are underdeveloped. In 2018, the competitiveness of major Indian ports was ranked 42nd, far behind China, Malaysia, and Thailand, owing to poor infrastructure and turnaround times. The gas grid is still in its early stages, with only 10.1 million connections compared to 309 million users of LPG canisters, a more volatile substitute for cooking fuel than piped natural gas.

What exactly is the concerning situation?

  • Inflation: The Reserve Bank of India (RBI) expects retail inflation to fall in FY 2024, from 5.78 percent in December 2022. However, signs of embedded inflation via core inflation (excluding volatile food and fuel) above 6% are concerning.
  • Energy supply disruption: A disruption in energy supplies could upset inflation expectations.
  • Taming inflation would exacerbate the fiscal crunch: Reducing taxes on the retail supply of petroleum products would exacerbate the fiscal crunch.
  • Interests paid for with new borrowings is a risky strategy: Borrowings can be used to fund high-growth economies as well as start-ups that borrow against their future growth prospects. It is a risky strategy for a large, lower-middle-income economy like India, with historically moderate long-term growth rates (4 to 6 percent), to compromise reserve fiscal capacity to respond to economic downturns caused by economic shocks through counter-cyclical measures.

What India should do?

  • Resumption of long-delayed disinvestment: Resumption of long-delayed privatisation and disinvestment of public-sector enterprises and government-owned financial institutions.
  • Make the Indian railway an independent entity: Second, instead of seeking budgetary support, make Indian Railway an autonomously regulated, commercially run entity that generates a surplus for the government.
  • Encourage government spending: Encourage public finance outlays to be driven by competitive metrics of allocative efficiency across investment options and program/project implementation models to maximise economic impact.

@the end

Government disintermediation is appropriate for a new phase of growth. It promotes greater competition and innovation in the private sector, resulting in increased efficiency and economic growth. India is gaining ground. It only requires a light grip on the reins.

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