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The fiscal deficit target of 4.1% for FY15, announced in the interim Budget, seems unrealistic. One, the nominal GDP growth assumption at 13.4% based on a real GDP growth rate of 6% is unlikely given the ongoing industrial sector and export weakness, and the possible El Nino impact on agriculture sector. A GDP growth of 5% is more likely. Weaker GDP growth implies lower than targeted tax and non-tax revenues and a higher fiscal deficit.
Two, the assumed growth in total tax and income-tax revenues for FY15 at 20% and 30%, respectively, cannot be achieved. Tax revenue elasticity to nominal GDP growth has averaged 1-1.2% for the last five years. Given this elasticity and weaker GDP growth, tax revenue growth of 13-14% is more realistic.
Three, the assumptions in the interim Budget about reduction in subsidy allocations require tough decisions that, on present record, even this government may be unable to undertake.
n The oil subsidy of R63,427 crore includes a roll-over of R35,000 crore from FY14. This leaves only R28,400 crore for oil subsidy for the three quarters of FY15. With the hardening of global oil prices on account of instability in Iraq, oil subsidy bill will rise unless the government bites the bullet and removes the APM for oil products.
n Food subsidy will be higher given the roll-over and the prospect of a poor harvest that may require higher releases of subsidised foodgrain. The fertiliser subsidy of R68,000 crore may be inadequate, on the basis of assessed spillover from the previous year and higher compensation required for urea manufacturers once gas prices are revised.
So, in our base case scenario, with a shortfall in tax revenues of R30,000 crore and increase in subsidies by another R25,000 crore, a fiscal deficit target of 4.4% could at best be achieved. Even this may require further cuts in revenue expenditure.
Options available for Jaitley
Discarding fiscal discipline at this juncture will hurt investor sentiment, raise doubts about the government’s commitment to undertake needed policy reforms, and force RBI to raise interest rates to tame inflation. At the same time, the finance minister cannot let growth slip by cutting capital expenditures and dampening investment demand. So, revenue enhancement, though difficult in a weak growth environment, would be the preferred option.
Expanding direct tax base: At 15.5%, India has the third-lowest tax-to-GDP ratio among G20 countries, just ahead of Mexico and Indonesia. India has a mere 350 lakh taxpayers—3% of