India’s new government is about to present its first Budget. The Budget drama has two components. One is the nitty-gritty of revenues and expenditures, which is what a “budget” is ultimately about. The second piece is the policy directions revealed by the government in its Budget speech. Policy may be reflected in revenues and expenditures, as with changes in taxes or subsidies, or direct allocations on specific sectors such as health and education. Policy changes may also not involve such direct budgetary impacts, but be important for growth, or the external balance, and these, in turn, may have future budgetary implications.
The current situation is a good-news-bad-news scenario, with the bad news being more pressing, and requiring immediate attention. Here is how I would characterise the state of play with respect to central government finances. The last government certainly had laudable goals, and sought to make the fruits of growth available to the bottom of the pyramid. But it promised more than it could deliver. Having increased subsidy commitments, it had resorted to rolling over subsidies to keep the “official” fiscal deficit from exceeding prudent guidelines. But this was just postponing the problem, and sometimes making it worse in the future. Furthermore, unable to pass legislation to introduce the goods and services tax (GST), and faced with anaemic revenues as growth slowed down (due to a combination of policy paralysis, global uncertainties and domestic roadblocks), it resorted to stratagems such as retrospective taxation, new minimum taxes and so on, which only created more worry for investors and further slowed growth. This is the bad news that the new government has inherited.
If this is a honeymoon period, then this is the time for the government to fix what it can right away. Rolling over subsidies is not an approach that should be continued, and the government should begin the task of cutting these subsidies in earnest. Also on the expenditure side, the central government’s fondness for planning and for various national missions has led to a somewhat chaotic allocation of funding across agencies, sectors and levels of government. This is the time to go for a drastic simplification, abandoning central planning as a mechanism for controlling flows of funds, and letting central ministries make allocations for expenditures that are central government responsibilities, or categorical grants to the states if they wish. This is also a good time for the central government to