Expectations from finance minister Arun Jaitley?s first Budget were high given it offered the Narendra Modi government the first comprehensive opportunity to back its reform rhetoric with action. Financial markets might have given the Budget an initial ?thumbs up?, but the overwhelming impression is that an opportunity has been missed. Though Jaitley hit many of the right notes, this is not the game-changing Budget to propel the government?s reform drive. Indeed, the optimism of the Budget?s tax and spending assumptions are strongly redolent of the fiscal legerdemain of the UPA administration. So, while fiscal consolidation is likely to continue, it would remain low-quality, with cuts to capex budgets.
Importantly, there are clear positives in the Budget. The government has confirmed that fiscal discipline is central to its macroeconomic strategy. Despite the Centre?s deficit likely to overshoot the 4.1%-of-GDP target set for FY15 by the previous government, Jaitley bravely committed to stick to the target and keep the deficit on track to reach 3% of the GDP by FY17. The commitment to undertake any further retrospective tax amendments with extreme caution is welcome as it signals the intent to have a more predictable and stable tax regime than the last government?s. Another key positive is the lifting of FDI caps to 49% for the insurance and defence manufacturing sectors. The finance minister also reiterated the government?s commitment to ushering in the goods and services tax regime as soon as possible, although, given the need for a Constitutional amendment and ratification by half of the state Assemblies, this sorely needed reform could remain elusive.
Turning to the negatives, while the commitment to fiscal consolidation is cheer-worthy, the Budget?s tax and spending assumptions remain questionable. Recent budgets have been characterised by implausibly optimistic assumptions over both subsidy control and revenue growth. When these have failed to materialise, planned capital spending has been slashed to compensate. Deficit reduction has continued but it has been of poor quality, with cuts to capex ?muscle? rather than subsidy ?flab?.
Jaitley?s Budget assumptions unfortunately risk continuing with this tradition. Spending on subsidies is budgeted to fall by around 0.3% of the GDP, to a 7-year low of 2.0% of the GDP. However, the Budget has precious little on how this will be achieved, despite a substantial roll-over of spending from FY14. A new policy on urea is supposedly in the pipeline but no details were given. Assumptions on revenue growth also have been marked implausibly higher. Revenue receipts, for example, are assumed to surge by 15.5% in FY15, compared to the already optimistic 13.4% growth evinced in the interim Budget. Non-tax revenue expectations are also up sharply, including disinvestment proceeds; although, given the buoyancy of financial markets, these mark-ups seem reasonable.
Faster-than-expected economic growth could bail out these assumptions but the optimism on subsidy spending and revenue growth is misplaced, leaving department capex budgets susceptible to strain once again. Overall, the Budget feels like a missed opportunity with a depressing whiff of deja vu. Rather than a decisive break with the past, Jaitley has essentially served up more of the same. While sovereign rating agencies will welcome the commitment to stick to the pre-existing deficit reduction path, RBI is likely to be underwhelmed. With tough decisions on subsidy control once again shirked, the does little to assist the central bank in its still lonely struggle to regain control over inflation and thus does little to recast India?s sub-optimal policy mix of too tight a monetary policy and too lax a fiscal policy.
