Indian Economy, 5th edition (136 page)
Read Indian Economy, 5th edition Online
Authors: Ramesh Singh
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Efforts will also have to be made to contain subsidies through better targeting, limit other expenditures, and raise revenues over time so as to take the revenue to GDP ratio to 2007-08 levels.
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The disinvestment process has also been speeded up. Taking all these measures into account, the Mid-Year Economic Analysis 2012-13 indicated a likely slippage in the fiscal deficit for the current fiscal by only 0.2 percentage point.
In terms of the implied year-on-year growth envisaged by BE 2012-13 over provisional actuals of 2011-12, there is
slippage
in the first nine months of the current fiscal in corporate income tax by 4.9 percentage points, customs by 18.9 percentage points, and central excise by 16 percentage points.
There is
overperformance
in service tax collection by 5.9 percentage points and personal income tax by 7.6 percentage points. In terms of overall gross tax revenue, there is
slippage
of 6 percentage points in April-December 2012. Going forward, the realisation in the fourth quarter will determine the extent of shortfall for the year over BE.
The outcome in terms of the
fiscal deficit
of the centre broadly indicates that the slippage will be limited to 0.2 percentage point on account of the expenditure measures that could help offset the shortfall in non-debt receipts. The crucial lesson that emerges from the fiscal outcome in 2011-12 and 2012-13 is that in times of heightened uncertainties, there is need for continued risk assessment through close monitoring and for taking appropriate measures for achieving better fiscal marksmanship. Open ended commitments such as uncapped subsidies are particularly problematic for fiscal credibility because they expose fiscal marksmanship to the vagaries of prices.
Who Gets LPG Subsidies?
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Subsidies should be well targeted at the poor. The reach of subsidies on LPG is highly unequal amongst the poor and rich in rural and urban areas. While there is a significant inequality in the proportion of subsidies received by the poorest and richest households in rural areas, the distribution is more equitable across urban households. However, in both cases, the proportion of subsidies that go to the poor is low.
The proportion of LPG subsidies received by each quintile across rural and urban households
To calculate the distribution of subsidies across households, we use the 64th Round of NSS data and categorise all rural (and urban) households into quintiles based on their per capita household expenditure. Furthermore, we use the reported household expenditure on LPG to calculate the share of each quintile in the total expenditure on LPG. The share in expenditure on LPG for any quintile therefore reflects the proportion of subsidies received by that quintile. From the above graph, we see a highly unequal distribution of subsidies across rural households. The proportion of subsidies that go to the poorest quintile is only 0.07 per cent as compared to 52.6 per cent for the richest quintile. In urban areas, though the proportion of subsidies that go to the poor is still low (around 8.2 per cent), there is a more equitable distribution across the remaining quintiles (19 per cent, 24 per cent, 25 per cent and 23 per cent respectively).
It is better to achive fiscal consolidation partly through a
higher tax-GDP ratio
than merely through reduction in the expenditure to GDP ratio, in view of large unmet development needs. After reaching a peak of 11.9 per cent in 2007-08, the tax-GDP ratio had declined to 9.6 per cent in 2009-10 and was placed at 9.9 per cent in 2011-12. Therefore, raising the tax-GDP ratio to above the 11 per cent level is critical for sustaining the process of fiscal consolidation in the long run. Of course, it is much better to achieve a higher tax-GDP ratio by broadening the base which is taxed rather than increasing marginal tax rates significantly higher and higher tax rates impinge more and more on incentives to undertake taxable activity, while encouraging tax evasion.
Finally, higher fiscal deficits
usually lead
to rising public debt. India’s central government liabilities-GDP ratio has in fact come down since 2002-03 because high nominal GDP growth has offset both the new borrowing as well as the nominal interest payments creditors have demanded. Put differently, India has been able to borrow at low real interest rates even while the government has run fiscal deficits. Such a sequence of events cannot be relied upon, which is yet another reason for bringing down the fiscal deficit.
Another way of looking at the
slippage in public finances
is to see it in the context of domestic savings, which is the safest way of financing investment. Large fiscal deficits may imply lower public savings, lower domestic savings, and given a level of investment, larger CADs. Of course, private savings can increase to make up the shortfall in public savings. Unfortunately, after moving up in 2008-09 and 2009-10, private savings have declined sharply, compounding the decline in public savings.
REDUCTION IN FINANCIAL SAVINGS
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Much of the financial savings of the household sector are in the form of
bank deposits
(around 30 per cent in the 2000s), life insurance funds (22 per cent in the 2000s as against 9.6 per cent in the 1980s), and
pension
and
provident funds
(16.5 per cent in the 2000s as against 23.6 per cent in the 1980s).
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There has been a decline in the proportion of pension and provident funds, particularly since the late 1990s. This trend continued till 2007-8. These were also the years when the real rate of interest was generally declining.
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There has been some upward movement in the share of pension and provident funds during 2008-9 and 2009-10, partly due to the increase in disposable income of government servants who are significant contributors to these funds, on account of higher pay and arrears arising from the implementation of the recommendations of the Sixth Pay Commission.
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Shares and debentures accounted for 8.3 per cent of total financial savings in the1980s; their share increased to nearly 13 per cent in the 1990s before declining to 4.8 per cent in the 2000s. The reasons for such a trend could be the behaviour of share prices, as reflected by the Bombay Stock Exchange (BSE) Sensex.
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The increase in the proportion of shares and debentures in total financial savings in the 1990s could be ascribed to higher returns (21.4 per cent per annum on an average for the decade) along with lower volatility as reflected by a lower coefficient of variation that declined from 42.3 in 1980s to 33.2 in the 1990s.
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The returns on the BSE Sensex halved to 10.7 per cent in the 2000s and volatility increased as can be seen from the higher value of the coefficient of variation at 60.1. Thus a combination of lower returns and higher volatility in the 2000s vis-à-vis the 1990s could have contributed to the reduced share of shares and debentures in total financial savings.
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This, coupled with high inflation, could also be one of the reasons why
gold
has become a
‘safe haven’
investment in recent times. Acquisition of gold by the households in the country tends to have a negative impact on savings and on household financial investments.
Domestic Savings
The volume and composition of domestic savings in India have undergone significant changes over the years. The savings rate (gross domestic savings as percentage of gross domestic product at market prices) averaged
18.6
per cent in the 1980s and
23
per cent in the 1990s. The savings rate exceeded
30
per cent for the first time in 2004-05 and has remained above that level ever since. It peaked in 2007-08 at
36.8
per cent and reached an eight-year low of
30.8
per cent in 2011-12 (the latest period for which complete figures are available).
Savings come from
three sources
, viz.
households
, the
private corporate sector
, and the
public sector
. On average, households accounted for nearly
three-fourths
of gross domestic savings during the period 1980-81 to 2011-12. The share declined somewhat in recent years, and in the period from 2004-05 to 2011-12, it averaged 70.1 per cent of total savings. Savings of the private corporate sector accounted for 15 per cent of total savings on an average between 1980-81 and 2011-12. However, during the years 2004-05 to 2011-12, their share increased to 23.2 per cent. The public sector accounted for 10 per cent of total savings on average between 1980-81 and 2011-12. It has been progressively declining and during 2004-05 to 2011-12, public savings as a ratio of total savings averaged 6.7 per cent. Figure 1.5 shows the trends in contribution of the household, private corporate, and public sectors to total savings since 1980-81.
Within
households
, the share of financial savings vis-à-vis physical savings has been declining in recent years. Financial savings take the form of bank deposits, life insurance funds, pension and provident funds, shares and debentures, etc. Financial savings accounted for around 55 per cent of total household savings during the 1990s. Their share declined to 47 per cent in the 2000-10 decade and it was 36 per cent in 2011-12. In fact, household financial savings were lower by nearly ‘ 90,000 crore in 2011-12 vis-à-vis 2010-11.
One of the reasons for the increasing share of the
private corporate
sector in total savings could be that there has been an increase in the total profit to output ratio from 3.5 per cent for the 1980s to 5.4 per cent in the 1990s and further to 7.7 per cent in the 2000s in the factories sector (estimated from the information available from the Annual Survey of Industries). There has also been a reduction in certain costs, that is emoluments, interest payments, and fuels as a ratio of total value of output. This reduction has contributed to profits and consequently higher savings of the corporate sector. A slowdown in the industrial sector has an impact on private corporate savings, as was the case in 2008-09 and again in 2011-12, and the revival of this form of savings depends on how fast industry recovers.
Public-sector savings
include savings by –
i.
Public authorities comprising government administration and quasi-government bodies and departmental commercial enterprises, and
ii.
Nondepartmental commercial enterprises.
The share of public savings in total savings progressively declined from over 20 per cent in the 1980s to 7.3 per cent in the 1990s and further to 3.3 per cent in the 2000s. Within public savings, the share of non-departmental PSUs on an average remained in the range of 12-13 per cent during each of the three sub-periods. The share of public authorities in total savings declined by nearly 16 percentage points from a positive contribution of 7.4 per cent in the 1980s to a negative contribution of 8.7 per cent in the 2000s. Public authorities have generally been dis-savers since 1987-88, with large dis-savings since 1998-99.
Prices and Monetary Management
Headline WPI inflation
remained relatively sticky around 7 to 8 per cent in the current financial year and moderated to a three-year low of 7.18 per cent in December 2012. Average headline WPI inflation in 2012 (April-December) moderated to 7.55 per cent from 9.35 per cent in the corresponding period of the previous year. The momentum based on seasonally adjusted annualised rate (SAAR) has also been showing a declining trend in the last couple of months for major subgroups of the WPI. The decline is mainly due to moderation in non food manufacturing inflation (
‘core inflation’
as defined by the RBI). Core inflation remains muted and declined to 4.24 per cent in December 2012 from its peak of 8.35 per cent in November 2011. Apart from monetary measures taken by the RBI, softening of international and domestic prices of metals, chemicals, and textiles products also contributed to the moderation of core inflation.
Elevated
food inflation
, however, remains an area of concern with inflation gradually inching upwards to double digits in December 2012.
Unlike the previous year, when food inflation was mainly driven by higher protein food prices, this year the pressure has come mainly from cereals.
Inflation in cereals has increased to 17.05 per cent in the third quarter of 2012-13 from 6.36 per cent in the first quarter mainly on account of an increase in prices of wheat, rice, and maize. Besides an increase in the minimum support price (MSP) for wheat and rice, inadequate open market availability relative to demand, particularly for wheat, has also resulted in a build-up of price pressure and hardening of inflation for cereals. The recent increase in onion prices in December 2012- January 2013 may also put some pressure on primary food articles inflation. However, milk and other protein items witnessed moderation in inflation in the second and third quarters of 2012-13.
Rising food inflation has also widened the gap between inflation measured in terms of CPIs and
WPI to 3.91 percentage points in December 2012 from 1.55 percentage points in May 2012. However, global commodity prices have remained relatively benign with both energy and non-energy prices registering a decline until recently. As per the
World Bank’s Global Economic Prospects
, except for metals, most global commodity prices are expected to decline further in 2013 and 2014, a silver lining in the tepid global recovery. The impact of benign inflationary expectations internationally will have a moderating impact on domestic prices.
In the meantime though, the RBI has to weigh the costs of rapidly slowing growth against persistent
CPI inflation
. To the extent that the primary component of CPI inflation is food prices, elevated because of supply constraints, the textbook prescription is for the RBI to look through higher food prices even while setting rates to ensure that the ‘second round effects’ as reflected in core inflation are contained. In other words, set monetary policy based on the behaviour of core inflation. One worry with this more accommodative approach is that CPI inflation, which is what the public sees, is becoming entrenched in the public’s expectations. A second worry is that high inflation may be causing anxious investors to shun fixed income investments such as deposits and even turn to
gold as an inflation hedge
, thus contributing to the CAD. Nevertheless, to the extent that monetary policy has limited influence over certain aspects of inflation such as food prices, it may be appropriate for monetary policy to set rates based on what it can influence, while keeping in mind that nominal interest rates affect many aspects of the economy other than growth and inflation.