*This article was originally published by Fair Observer.
Atul Singh and Manu Sharma | In an article for the BBC, Vivek Kaul has damned the most recent Indian budget as “full of vague promises” that “sells dreams for votes.” In contrast, Shyamal Mukherjee, the chairman of PricewaterhouseCoopers (PwC) India, has hailed the government for approaching “development holistically.”
The budget deserves neither Kaul’s condemnation nor Mukherjee’s genuflection. Instead, a cold look at the budget’s proclamations and numbers reveal that this is a budget of both promise and peril. If the government can follow through on its proposals, it will improve the lives of hundreds of millions. If it fails or falters in its implementation, a surge in inflation, unemployment and debt is inevitable.
State of the Economy
To analyze the budget, we have to examine the state of the economy, and the government of India’s Economic Survey 2017-18 is the best place to start. The Indian economy decelerated in the first half of the year before rebounding sharply in the second half. Apparently, the slowdown in the first six months was because of demonetization, teething difficulties in the new goods and services tax, rising real interest rates, companies struggling to meet interest payments, bad debts on the books of banks, and sharp falls in certain food prices that impacted agricultural incomes. From July 2017 onward, the global economic recovery boosted exports. Because of government reforms, India jumped 30 spots on the World Bank’s Ease of Doing Business rankings from 130 to 100.
Yet, as Economic Survey 2017-18 acknowledged, anxieties remain. In its words, “fiscal deficits, the current account, and inflation were all higher than expected, albeit not threateningly so, reflecting in part higher international oil prices—India’s historic macroeconomic vulnerability.” While pointing out that India had risen 30 spots in one of the World Bank’s rankings, the survey failed to note that, out of 190 countries, India still ranks 156 when it comes to starting a business, 164 in enforcing contracts and 181 when dealing with construction permits. The rankings reveal that India’s infamous red tape, notorious corruption and dysfunctional judiciary continue to hinder its economic potential.
Newspaper headlines tend to focus on growth alone. However, Indians must pay attention to three pertinent facts.
First, private investment in India has collapsed from a high of 27.2% of GDP in 2011 to about 21.9% of GDP in 2015. The Economic Survey 2017-18 observes that Indian corporates have modest investment plans despite the low levels of the cost of equity, thanks to booming stock markets.
Second, exports of goods and services fell from 25.4% of GDP in 2013 to 19.2% in 2016. Alarmingly, “the only two truly sustainable engines” of rapid economic growth are not quite firing on full throttle.
Third, unemployment and underemployment in India continues to remain a huge challenge. Year after year, even doctors of philosophy continue to apply for positions of peons. The lack of “good, high productivity jobs” threatens to make India’s much-heralded demographic dividend a demographic disaster.
Growing tax base
Tellingly, the Economic Survey 2017-18 reveals an important fact. The number of unique indirect taxpayers in India has gone up by 50% since the government implemented the Goods and Services Tax (GST) Act in July 2017. The income tax net has widened too. Now, an additional 1.8 million are paying income tax, taking the figure of those who file returns to around 59 million payees. Income tax collections have risen from 2% of GDP to a historic high of 2.3%. This number is still miniscule in a country of over 1.3 billion people, but the government has made significant progress in its goal to formalize the Indian economy.
Even as the central government in New Delhi is casting a wider net, the 29 state governments do a terrible job in collecting taxes. The Economic Survey 2017-18 reveals that Indian states get less than 10% of their total revenue from direct taxes. The corresponding figures for their counterparts in Brazil and Germany are nearly 20% and over 40% respectively.
India’s tax figures reveal an important fact. The informal or “black” economy in India has been humongous for decades. Neither Jawaharlal Nehru’s socialism nor Narasimha Rao’s liberalization were able to shine the light on this black economy. Indians found innumerable ways to work around their government’s interminable red tape, and avoiding tax was a national sport in a manner uncannily similar to Italy. Prime Minister Narendra Modi’s government has made progress on its long-term goal of the formalization of the Indian economy.
Tackling twin balance sheet problem
In March 2017, The Economist analyzed India’s Twin Balance Sheet (TBS) problem. During former Prime Minister Manmohan Singh’s second term when Raghuram Rajan was the governor of the Reserve Bank of India (RBI), companies invested on over optimistic assumptions and banks lent without due diligence. As a result, many companies are near-bankrupt and are struggling to repay their debt. This puts the balance sheets of both companies and banks in “parlous states” because non-performing assets throttle investment. Since most banks are owned by the government, the risk of an acute crisis is low. Having said that, bad debts are causing a “chronic malaise” in the economy.
Rajan is the man responsible for this malaise. Interestingly, Business Insider prides itself on calling Rajan the “James Bond of Dalal Street.” This New York-based publication was not alone in letting Rajan off the hook for India’s TBS problem. Like Alan Greenspan, Rajan and his predecessors presided over an “irrational exuberance” that led to banks lending merrily to the likes of Vijay Mallya, who alone racked up over $1 billion. Mallya, the “King of Good Times,” has since fled to the United Kingdom and been charged with money-laundering. Rajan might have been Bond for the stock market, but this US-based son of an intelligence official left a trail of carcasses in India’s banking sector.
Such is the scale of the TBS problem that India’s non-performing assets ratio is among the highest in the world. Only Greece, Italy, Portugal and Ireland have worse ratios. In December 2017, RBI published the Financial Stability Report (FSR), a biannual publication. As per the FSR, non-performing assets in the banking sector may rise from 10.2% of the total loans in September 2017 to 10.8% in March 2018 and further to 11.1% by September 2018.
To be fair to the Modi government, it is finally addressing TBS through, what the Economic Survey 2017-18 called, the four Rs strategy involving “recognition, resolution, recapitalization and reforms.” It has also brought in a new Indian Bankruptcy Code (IBC) to provide a resolution framework for companies to clean up their balance sheets and reduce their debts. Furthermore, the government has announced a large recapitalization package of about 1.2% of India’s GDP to strengthen the balance sheets of public sector banks.
Finance Minister Arun Jaitley trumpeted Modi’s vision of “minimum government and maximum governance” in paragraph seven of his budget speech. In the next paragraph, he talked about improving “ease of living” not just “ease of doing business,” especially for the poor and middle classes. He declared that good governance involves minimum interference by the government in the life of common people of the country. If we are to derive the philosophical underpinnings of the budget, they lie in paragraph eight of the finance minister’s speech. The government aims to ameliorate the lives of the people but intervene minimally in the process.
To improve this ease of living, the budget raised the Minimum Support Price (MSP) for a large number of crops by one and a half times. The government’s goal is to raise incomes for farmers. However, the budget does not contain an analysis of how the rise in MSP might impact inflation, cropping patterns or the budget deficit. It does focus on strengthening rural markets, though, and sets an ambitious target of upgrading 22,000 of them. The budget also announced 500,000 Wi-Fi hotspots that hold the promise of connecting millions of villagers to high-speed internet. It focuses on rural infrastructure, announcing 1.7 million kilometers of new roads, 5.1 million new homes, 19 million new toilets and 17.5 million new household electricity connections for India’s villages.
More importantly, the budget announced two major initiatives as part of the Ayushman Bharat program that, in the words of Jaitley, aims to make “path breaking interventions to address health holistically, in primary, secondary and tertiary care system covering both prevention and health promotion.” First, 150,000 health and wellness centers are to “provide comprehensive health care, including for non-communicable diseases and maternal and child health services.” They are also supposed to dispense “free essential drugs and diagnostic services.” Second, “a flagship National Health Protection Scheme” is to cover over 100 million poor and vulnerable families, providing coverage of up to $7,800 per family per year for secondary and tertiary care hospitalization. This is four times the country’s real per capita income. With an estimated 500 million beneficiaries, this scheme “will be the world’s largest government funded health care program.”
The budget recognized that “Medium, Small and Micro Enterprises (MSMEs) are a major engine of growth and employment in the country.” Jaitley observed that demonetization and GST were causing the formalization of MSMEs. He announced more than $590 million for MSMEs as “credit support, capital and interest subsidy and innovations.” The slashing of corporate income tax is more significant measure for MSMEs. Companies with a turnover of up to approximately $39 million will pay tax at 25%. This will benefit 667,000 companies that employ 110 million Indians and comprise 37% of India’s GDP. Thus, 96% of the total number of companies filing tax returns will benefit from this measure. The assumption behind this move is that it will strengthen the MSMEs sector and boost employment.
On the taxation front, the budget introduced the long-term capital gains tax on return on investment from equity. As per the finance minister, buoyant stock markets have largely benefited corporates and limited liability partnerships. Besides, as the Economic Survey 2017-18 observed, this stock market surge has coincided with deceleration in economic growth. India’s corporate earnings to GDP ratio has fallen to just 3.5%, while the corresponding figure in the United States has remained a healthy 9%. As per Jaitley, this has created “a bias against manufacturing” and some say even capital investment. This measure is intended to even the playing field apart from getting some coins for India’s coffers.
Finally, the budget increases the existing health and education cess by 1%. This will net the government a little over $1.7 billion and go to the Consolidated Fund of India but, unlike the GST, not be shared with the states.
Reading the charts: the good, the bad and the ugly
Prima facie, the health insurance scheme is a bold move that could ameliorate the lives of hundreds of millions. Recently, the World Health Organization and the World Bank published Tracking Universal Health Coverage: 2017 Global Monitoring Report, as per which India did not fare too well. About 16% of Indian households spend over 10% of their income on health care in case of crises. Nearly 4% spend as high as 25% when emergency strikes, in contrast to South Africa and Russia where merely 0.1% and 0.6% households spend a similar amount. As per two different poverty lines, 4.2% or 4.6% of households end up impoverished because of excessive spending on health care. The above percentages imply that of the 240 million households in India, 50 million are ruined by costs of health care. In theory, insurance could save these borderline cases — people who are often pushed over the edge by simple diseases such as malaria and diarrhea.
Health insurance could also create a parallel health care system that provides for the poor. India’s public health delivery system is on the verge of collapse. Government hospitals lack doctors, nurses, equipment and medicines. Employees fail to show up, wards are dirty and patients die waiting. Furthermore, of a total of 628,708 government beds, only 196,182 are in rural areas. India does not have enough doctors and most do not go to rural areas. This leaves villagers highly vulnerable because simple conditions can deteriorate rapidly into life threatening ones.
The budget’s health insurance scheme could bring about dramatic change if executed well. However, after the shambolic implementation of demonetization and the multiple gaffes over GST, the government’s ability to execute is in question. Health care and public health professionals point out that the budget has given up on the provision of health care by the government. Since this model has failed for decades, it is opting for the insurance-based solution. However, this runs risks of inflation as the American experience demonstrates. In the US, an insurance-driven system now consumes over 17% of an over $18 trillion GDP and achieves rather poor outcomes.
Furthermore, the budget’s health insurance scheme took everyone by surprise. It was reminiscent of the government’s earlier announcement to impose demonetization. While it may be a product of original thinking by government, the fact that the scheme was utterly unflagged is reflective of a secretive nature of functioning. It appears that a close coterie comes up with ideas but does not bother to run it by subject matter experts or those responsible for implementing this project.
There is another minor matter. In India, private health care providers are arguably at least as rapacious as in the US. They notoriously provide shoddy treatment at high prices. Worryingly, they provide “kickbacks for referrals, irrational drug prescribing and unnecessary interventions,” profiting from the sick in a most unseemly fashion. Such is the state of affairs that an estimated 40% of private care is provided by unqualified providers. Even reputed corporate hospitals are guilty of running rackets. If implemented poorly, private hospitals would profit far more from the budget’s insurance scheme than poor villagers. Besides, the budget does not reveal how much this scheme will cost, where the money would come from and who would administer this scheme.
Similarly, neither MSP nor rural markets might end up benefiting farmers much. State governments are in-charge of agriculture, and their ability to implement policies or schemes are suspect. Besides, the budget is unclear as to the cost of increased MSP or its impact on inflation, deficit and the environment. If farmers are assured of MSP on rice, what stops them from growing this water guzzling crop in semi-arid areas such as Haryana and Punjab?
Despite potential pitfalls, the focus on issues such as health and rural infrastructure is indicative of a socialist bent of mind. At a time when US President Donald Trump is cutting taxes, the supposedly market-friendly Narendra Modi is courting the poor and the marginalized. He is cutting expenditure in defense and education while continuing subsidies and dispensing goodies. Unlike the Fabian Socialism of Nehru, this is Sanatan Socialism of Modi. Just like Sanatan Dharma, this is an ingenious and indigenous form of socialism. A party long identified with the priestly and trading classes is now focusing on India’s impoverished millions. However, instead of entrusting India’s bumbling bureaucrats with the commanding heights of the economy, Modi’s government is relying on formalization and financialization to deliver benefits to the people.
In the pursuit of formalization, the government is bringing an increasing number of individuals and companies into the tax ambit. To achieve its goal of financialization, over 310 million new bank accounts have opened under the prime minister’s Jan Dhan Yojana. These accounts are linked to their unique identification numbers known as Aadhaar and to their mobile numbers. This linking of accounts, Aadhaar and mobile numbers allows the government to deliver financial subsidies directly to citizens, eliminating intermediaries, inefficiencies and leakages. Of course, financialization carries risks too. If Indian banks go the Americano way and invest in toxic assets, they might drag down depositors in the same way.
Finally, the political ramifications of this budget are the elephant in the room. This year, 10 different states will face elections. Many expect an early national general election by the end of the year. Some anticipate direct cash transfers to new bank accounts as a last-ditch effort to win votes.
India is now fairly and squarely in the midst of election season and all political parties are striving to win over voters. Yet even as the government has showered rural and marginalized voters with goodies, it has left the urban middle classes high and dry. These classes are traditional supporters of the Bharatiya Janata Party and are seething with rage. It is too early to tell if they will vote for the opposition, but they no longer love Modi as they did in 2014. If Sanatan Socialism does not seduce India’s poor and needy, the next elections might prove just a tad tricky for the man with the self-proclaimed 56-inch chest.
*This article was originally published by Fair Observer.