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Finance panel sounds fiscal alert

New Delhi, Sept. 29: The newly-appointed Twelfth Finance Commission has warned the government that unless it took steps to curb the runaway rise in fiscal deficit, development and economic growth might be compromised.

“The adverse impact of a large fiscal deficit on the economy should not be under-estimated. Fiscal deficits of the Centre and state governments need to be brought down in a calibrated way by augmenting revenues and pruning expenditures,” the commission’s chairman, C. Rangarajan, said here today.

The combined fiscal deficit of the Centre and state governments has risen to over 10 per cent compared with a target of below 7 per cent.

Most experts consider this a serious situation. Earlier, the International Monetary Fund had issued a similar warning, stating in a country report formulated after consultations with the finance ministry and The Reserve Bank of India, “India's large fiscal deficits and public debt are exacting an economic cost in terms of foregone growth.”

A rising fiscal deficit may lead to a rise in debt, increasing interest payments, lowering developmental expenditure and eventually leading to a fall in the gross domestic product (GDP) growth rate, Rangarajan said. A high fiscal deficit had stunted GDP growth between 4 to 5.6 per cent in the past three years, he added.

He also predicted that the revenue deficit was likely to worsen in 2004-05 from the 7 per cent deficit in 2001-02.

Most economic analysts feel the government should leverage its favourable external and interest rate environment to build the necessary political consensus for accelerating the required fiscal and structural adjustments.

A reform regime prescribing lower subsidies, divestment and tax reforms, including introduction of value-added tax (VAT), is what the economists feel might do the trick.

Rangarajan said fiscal deficits could be allowed to rise only if state governments and the Centre could “match the rise with an increase in their capacity to service the higher debt flows”.

But unfortunately, revenue deficits are widening, a sure sign that the ability to take on more debt is absent.

He said the tax-GDP ratio had fallen by around 2 per cent from 16 per cent in 1986-87 to 14 per cent in 2003-04.

“The decline in tax-GDP ratio was due to a fall in revenues from indirect taxes-GDP ratio by 2.8 per cent, which could only partially be compensated for by the rise of 0.9 per cent in direct tax-GDP ratio,” Rangarajan said.

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