One good sign about Indian economy’s improved performance is that while there is still considerable interest in the Union budget proposals, the hype preceding its presentation has diminished. Perhaps, this is a result of the fact that budgets are no longer dramatic in terms of announcements that break with the past or contain major new policy signals. In other words as the economy grows on an impressive and reasonably stable path, budgets become more predictable and reflect continuity with the past. The latest budget is in that sense a mature exercise, reflecting the economic priorities of the government, tempered by the political balancing act that coalition governance entails.
The news has been good on the macroeconomic front. Growth and inflation rates are both acceptable numbers.
In the backdrop of this macro picture, the fiscal management (and the target regarding fiscal deficit) is relatively easier. The service tax has been increased and broadened, but is anyway not being considered steep enough to distort incentives for growth. The fringe benefit tax is obviously contentious and there has been an attempt to rationalise it. It is important that it does not stifle business development. However, it should not be a screen for perquisites that dodge income tax. On this tax, my feeling is that there will be some learning and fine tuning yet, in the next two or three years before we can come to a steady state.
The finance minister has mentioned about a mix of head and heart going into the preparation of the budget. That should be obvious. In a polity such as ours, no consensus can ever emerge where purely rational decisions are not blended with compassion.
I will briefly comment on two measures contained in this budget. The first pertains to the special need for letting farmers access institutional credit from banks, and the need to ensure a low cost of credit to sustain farm growth at 4 per cent. Institutional credit, its easy access and low cost are certainly import for agricultural growth. However, I think the time has come to take a fresh look at land distribution, operational holdings and agricultural technology.
The second is about urban growth of theme cities and the funding of proposals from West Bengal and Karnataka. The concept of theme cities such as a health city or an IT city are novel.
It signals government endorsement of a new type of urban agglomeration that might have very focussed sector wise economic effects. I am not very confident about single themes being able to induce general urban growth.
Under the the Fiscal Responsibility and Budget Management Act, RBI will no longer be the debt manager and underwriter of the last resort for government borrowings from April 1, 2006. This will help the RBI to focus on monetary policy while the government borrowing strategies will be disciplined by market conditions. This will be a significant break from the past. If open market operations are to be significant instruments of monetary policy, the RBI will have to develop greater accuracy in predicting liquidity needs of the market.
On the other hand, as far as budgetary expenditure plans are concerned and the government’s borrowing programme there could be some unanticipated shocks. This year will be a test case as to whether, on its own, the government can manage to find the best prices and exert adequate influence on the interest rate structure in a developing but hardly mature bond market.
The sophistication of budget making is not often an indication of how well the economy actually performs. It should also be remembered that the “human face” is yet to wear a smile.