The last budget of this government will be driven by the general elections in 2008 or 2009, and the state elections in between. The reluctant support from the Left will continue to stop many initiatives. Its members like to label themselves ‘pro-poor’, are against any reform of subsidies to make them more effective in reaching the needy with less leakage and perhaps lower costs, are for continuing state ownership of all public enterprises without considerations of improving efficiency or releasing government funds for other purposes through disinvestments, for lower taxation, but with increased government expenditures, and high taxes on individuals and companies. The other supporting parties, such as the Dravida Munnetra Kazhagam and Nationalist Congress Party, will look for policies that they can take credit for in their respective states. Unfortunately, the Congress has no distinctly articulated agenda.

The budget must consider the decline in the American economy, fears of a consequent slow-down in the world economy, and the present slow-down in growth of the gross domestic product and industrial production this year. Things might worsen if the American economy goes into recession. Rich economies might also take advantage of lower manufacturing costs and India’s growth economy. There could be more outsourcing to India and greater inflow of foreign funds. The advice of the International Monetary Fund chief for the American and global economies, as a response to possible recession, are tax reductions, lower interest rates and massive public expenditures. Our budget might follow the same advice and postpone deficit reduction to push growth even at the cost of inflation.

The finance minister and the Reserve Bank of India seem to have conflicting views on the threat of inflation. The budget must counter the slowing down of industrial production because of rising capital and material costs, competitive pressures, and the rising rupee value.

The dismal state of agriculture requires the correction of years of neglect and declining investment. The finance minister has buoyant tax revenues. That will enable him to indulge many populist programmes and continue other huge expenditures. He must curb the volatile inflow of foreign funds, responsible for the ebbs and flows of liquidity and equity prices. Some inflows may also be from Indians overseas sending funds back to India, especially into real-estate investments including initial public offerings. He must re-evaluate the sops for special economic zones.

The deficit and its reduction are important issues. The finance minister, in past years, has not accounted for the securitized bonds issued to oil companies and the Food Corporation of India. These have grown to vast sums. They constitute government borrowing but are not counted as such, and so show lower deficits. In 2008, the amounts will be even larger. They are now eligible for counting in the statutory liquidity ratio of banks. They must, in fairness, be counted as government borrowing. With rising crude oil prices, and of wheat for imports, there will be further accretion to these bonds.

Rationalization of subsidies and their proper targeting are goals that neither the finance minister nor the prime minister — when he was finance minister — have been able to reach. Subsidies for fertilizers, kerosene, foodgrain, electricity, liquid petroleum gas and so on, miss many of the poor and vulnerable in the population. For example, 40 per cent of the heavily subsidized kerosene for the poor is diverted for the adulteration of diesel by lorries. There is potential for efficiency in delivery and for reduction in costs of subsidies. The Left will not allow it.

The election mindset has already led to the extension of the national rural employment guarantee scheme. This is despite the observed misuse and leakages that have not been plugged. The extension of subsidies to religious minorities — a haj type of subsidy to Christians visiting Jerusalem — is an election-oriented move. There has been extreme public pressure on the RBI and nationalized banks to reduce interest rates. Some banks have now reduced interest rates by 0.25 per cent. Home loan rates have been reduced as well. This will help stimulate demand, but inflationary consequences are certain.

Defence expenditures in this budget will rise as India prepares itself as a global, and not just a local, power. The Pay Commission will add substantially to expenditures and, going by past records, without any commensurate pruning of number of employees or improvement in their performance.

But there is genuine need for the government to increase expenditures on physical and social infrastructure and agriculture. The trend of the last few years of increased expenditures on them must continue. Power, water, sanitation, railways, urban and rural roads, airports, ports and urban infrastructure demand substantial improvement. Agriculture needs investment and relief to counter farmer suicides in Vidarbha, Andhra Pradesh and Karnataka. Water availability and credit must be improved.

Health and education programmes are keys to the ‘demographic dividend’ becoming an actual dividend and not a burden with untrained young unemployed people. The National Knowledge Commission, the Vaidyanathan review of social science research and other documents estimate substantial expenditures on education at all levels. The Sengupta Commission shows that labour in the unorganized sector requires substantial support. However, governments have not shown the ability to prevent large scale stealing, wastage and poor quality of increasing expenditures.

The Jawaharlal Nehru Urban Renewal Mission, like the Accelerated Power Reforms and Development Programme, using carrots and sticks on state governments, have been quite successful and must be significantly extended. State governments demand a fair share of service taxes, royalties on their resources, and support in other expenditures. The JNURM is a good model to ensure that states spend the moneys efficiently. The entry of the private sector as investors through imaginative funding schemes like ‘viability gap funding’ and competitive tariff-based bidding need extension, to reduce burdens on the government.

Declining sales and profitability growth in companies require relief in fringe benefits tax, minimum alternate tax and surcharge on income tax. Exporters require duty-free imports. Reaching levels of the Association of Southeast Asian Nations in import duties has to be achieved. Value-added tax is beset with procedural problems in many states. Abolition of the Central sales tax and moving to goods and services tax, targeted for 2010, will be delayed, since preparations are not complete. Excise duties on petroleum products must be rationalized downwards for retail price rises to be moderated. Exporters hurt by the rising rupee need support through higher duty drawbacks and other supports. Disinvestment in public sector undertakings could release large funds for other investment while improving their efficiency. But opposition of the Left will prevent it.

In practice, deficit will not be reduced. The budget speech might have a homily on moderate inflation being acceptable in order to sustain growth, and so justify an even more massive spending programme. There will be substantial expenditures on all the sectors mentioned earlier. Some tax reliefs on research and development expenditures by companies, downward adjustment of import duties, help to export industries hit by the rising rupee and reduction in the Central sales tax rates, as planned, can be expected.

Write-off of loans to farmers will add another burden to the budget. It will be a budget fraught with risk and success will depend on improving economic growth, efficiency of implementation and the extent of world economic decline.

The economy requires large expenditures urgently. It must reduce wasteful expenditures on programmes, and spend effectively. It must discard programmes that are not. However, this budget, like the earlier United Progressive Alliance budgets, will be an unnatural compromise between a conservative Left and a weak ruling coalition.