The budget prioritizes capex-led growth, shrinks social safety net

The budget should be assessed recognizing the challenging context in which it has been prepared. Externally, the global economy is heading towards stagflation. India remains the fastest growing major economy in this grim global scenario, but has its own problems. As the base effect of the pandemic-driven contraction in 2020-21 (FY21) and the devastating Delta wave in Q1 of FY22 has faded, growth has decelerated. It halved from 13.5% in Q1 of FY23 to 6.3% in Q2 and probably declined further in Q3 and Q4. For FY24, the Economic Survey has optimistically projected growth in the range 6-6.8%. Our forecast of 5.2% is in the same ball park as several others. Meanwhile, headline inflation is still above the 6% upper limit of the Reserve Bank of India’s (RBI) inflation tolerance band, though it has declined from the September peak of 7.4%. The current account deficit (CAD) rose to a worrying 4.4% of GDP in the first half of FY23, mainly on account of a huge merchandise trade deficit. However, the latest data indicates that this has now narrowed considerably.

With inflation moderating, though still elevated, and the CAD narrowing, the budget needed to focus on reviving growth while RBI focuses on containing inflation, its primary mandate. However, short term growth revival had to be addressed along with the fiscal consolidation necessary to sustain medium-term growth. This context called for a modest fiscal deficit (FD) reduction of, say, 0.5% instead of front-loading fiscal compression before growth recovery (see Sudipto Mundle, Mint, 23 December 2022). The budget has indeed planned a modest 0.5% FD compression in FY24 while maintaining the fiscal consolidation target of 4.5% FD by FY26.

Unfortunately, this deficit reduction will be achieved mainly by cutting social safety net spending, as explained below.

On the receipts side, projected tax revenue growth of 10.4%, similar to the assumed nominal GDP growth of 10.5%, is realistic since the tax-to-GDP ratio has remained stationary around 11% for years. The persistent low tax-to-GDP ratio points to an urgent need for expanding the tax net and strengthening tax administration. But barring strengthening of the digital tax information system, the budget does not address reforms.

This budget has reversed a disturbing trend of increasing central government recourse to cesses and surcharges (C&S), which are excluded from the pool of taxes shareable with the states. This is welcome. A.K. Bhattacharya has pointed out that the C&S share in total tax revenue crept up from about 5% in FY18 to 13% in FY23. In the FY24 budget, that share has declined marginally to 12%, mainly due to a reduction in the surcharge on taxable income exceeding ₹5 crore (A.K. Bhattacharya, Business Standard, 8 February 2023).

Apart from reduction in surcharge for the top tax bracket, the number of direct tax slabs have been reduced, exemption limit has been raised, standard deduction has been enhanced, and the rebate for the new tax regime has been raised from ₹5 lakh to ₹7 lakh. The last is an incentive to encourage tax payers to migrate to the new tax regime. On the customs tariffs side, arbitrary increases, sometime more for inputs than outputs, has been largely eschewed and rationalized. However, India’s tariff rates are still very high. Shankar Acharya has pointed out that the average ‘most favoured nation’ tariff went up from 10% in 2015 to 15% in 2021, while other Asian competitors have maintained low tariffs and are lowering them further as participants in various free trade agreements that India has avoided (Shankar Acharya, Business Standard, 9 October 2023). Such protection of domestic production creates an anti-export policy bias, adversely affecting our trade balance. Reducing customs tariffs is another important tax reform waiting to happen.

Finally, this budget’s defining feature is the large change in expenditure allocation. Capital expenditure (capex) has been jacked up by a massive 37.4% on top of large increases during the last three years, much of the increase going to infrastructure projects in transportation, energy, communications and drinking water. This has doubled the central government capex -to-GDP ratio from 1.7% in FY20 to 3.3% in FY24. Despite this, total expenditure is budgeted to rise by only 7.5% in FY24, enabling the 0.5% FD reduction. Revenue expenditure will rise by a mere 1.2%, a significant reduction in real terms.

This compression is mainly due to large cuts in a few Central and Centrally-sponsored schemes such as the petroleum subsidy (-75.4%), Mahatma Gandhi National Rural Employment Guarantee Program (MGNREGA; -32.9%), food subsidy (-31.3%), fertilizer subsidy (-22.3%). MGNREGA and the food subsidy are two key pillars of India’s social safety net. Spending cuts on these two, amounting to ₹119,244 crore, will cover the bulk of the 0.5% FD reduction. It is the major factor enabling the massive increase in capex despite the FD reduction.

In summary, the budget has not addressed some important aspects of tax reform. But its projections are realistic and it accords priority to growth recovery combined with modest fiscal compression. It has provided for a massive increase in capex to revive growth, but that increase has been enabled mainly by cutting spending on the two key pillars of India’s social safety net, MGNREGA and the food subsidy. How it will impact the 2024 general elections, if at all, remains to be seen.

Sudipto Mundleis chairman, Centre for Development Studies. These are the author’s personal views.