Indian budget and its complexities: A lesson in humility – By Dr. Bobby Srinivasan and Dr. Sudhakar Balachandran


July 2014 is the month when the new NDA government will present the budget to the parliament. Of course it will be approved given their solid majority. What will be interesting is to know as to how this document is going to be prepared. We will assume that the last budget of Mr. Chidambaram will be the source document and all changes will be made in the amounts of each source of income and expenditure. For academic purposes, we will present the document as a basis for a possible discussion between the finance minister and prime minister.

In general when we prepare our personal budget (source and use of funds) we will first identify all sources of income such as salaries, commission, bonus, allowances etc. pay taxes, and then allocate the resources to various items such as rent, food, medical, utilities, educational, holiday travel expenses etc and finally arrive at the potential savings.

In the case of the government budget, it will be done in a different order. They will first identify all the sources of expenditure and then later look for resources to meet these expenses. It is not an issue because the govt can always create a deficit which the future generation will be expected to pay and which can be monetized over time through inflation. The debt burden by the past governments will have to be taken into account since the interest payment on the debt must come from the present budget. Young people are you listening? We use up your future expected earnings and hopefully we can continue this until the cows come home. Any change in the attitude like bringing in austerity measures and fiscal discipline can create a serious havoc to the economy. If we did, we will go down the economic precipice and any effort to stop or to slow it can be fatal. The Eurozone countries are going through this now with a huge overhang of deflation in the pipeline.

Let us now start the conversation between the Finance Minister (FM) and the Prime Minister (PM)

PM: Have you identified all items of expenditure. and we soon will need to allocate funds. Lay it on me. Start with the expenses.

FM: Yes Sir. I have to caution you that the picture is somewhat depressing. Let me start with the first item namely interest payment on previous govt borrowing. As per the last budget it is between 18-19% of the budget and will continue to increase.

PM: Of course it is scary. How do we pay for this?

FM: Simple. We will create more deficit by either issuing more govt bonds and sell it. Alternatively, we can increase all taxes on individuals and/or corporations. Finally, simply print the required amount of money and use it. Additionally, we can always borrow from other countries, like China buying the US govt debt.

PM: Proceed further.

FM: Sir, in the last budget, our country spent 10% of the budget on all subsidies. The amount is nearly 3 trillion Rupees.

PM: Oh my God! How did this happen?

FM: Sir, fairly simple. We subsidize Kerosene, Diesel prices. We provide farmers fertilizer subsidy, minimum support price, purchase their produce, store it, and distribute it later after making provisions for the rats who make the warehouse their home. We pay salaries through NREGA scheme for the unemployed. Of course not all the money allocated through the scheme reaches the ultimate beneficiary but that’s a different matter.

PM: Do you mean to say that 29% of all the monies spent go to interest payment and subsidies. What other tax expenditure do we need to worry about?

FM: Sir. To be honest, it’s a plenty. We have budget item called the non-planned expenditure. This is the most generous one and uses up 11% of the budget. In this, among other items of expenditure, like salaries of civil servant we take care of all the retired govt employees through an indexed pension plan. Govt service in the past was most lucrative Sir. Incidentally, my father who recently died at the age of 91 received pension for over 33 years since he retired at 58. Initially the pension amount looked innocuous like a thousand Rupee. But when he died he almost received Rs. 50000 per month as a pension. It is a commitment that we cannot change. Unfortunately my mother passed away ahead of him, otherwise she should have received widowed pension as well.

PM: It appears to me as though even after an individual is retired he and his widow will be looked after with the tax payer’s money. Whoever started the scheme would not have dreamt that this alone could drive the country to bankruptcy. I am really tired of hearing so many negatives. Can you throw in some positivity?

FM: Yes Sir. I sure can. We have a very large number of Public Sector Undertaking, most of them are not worthwhile owning. We should think of selling them immediately and raise additional revenue. Look at Air India. It is bankrupt except save the lifeline provided by the bank and the govt. Look at SBI. Significant percent of those who took loan from it have no intention to repay it. Sir, to be honest with you, nowhere in the world public sector organization have made money and they always have been a drain on the national’s resources. Look at the mess China is currently in. Because of this a major slowdown is in the offing there.

PM: By selling these public sector undertakings will we improve our cash flow situation?

FM: Sir, not really but we can at least stop bleeding. Basel III will soon require recapitalizing our public sector banks. Where do we go for money?

PM: How about income tax? Can we increase the tax collection?

FM: As per our records only 2.5 to 3 crore people file the tax returns and provide 11% of the budget. Considering we have 125 crore people, this is minuscule. Most of the people who should be paying taxes are somehow avoiding it. Besides, the amount of tax collected is not even enough to pay for the subsidies.

PM: This is really shocking. Are you saying that personal income tax is a small portion of the revenue? Why then should it exist? You say only salaried people are assessed while others are getting away with paying either no tax or lesser taxes than required.

FM: Yes Sir. We should think out of the box and introduce newer taxes to enhance the revenue. We need to do a deep thinking on this.

PM: It is already depressing. Do you have anything to add?

FM: Yes sir. This may come as a shock to you. Do you know that out of every Rs. 100 we spend, Rs. 29 is borrowed money? This is atrocious and cannot continue. Soon we will become a banana republic. Sir, can a home survive with a borrowing as a source for 30% of expenses?

Also, for your information, I will provide you the source and use of funds statement used by the UPA govt for the last 10 years. The item heads are the same, only the numbers changed every year. Should we be using this model to prepare our budget?

PM: Show me what you have.

FM: Here it is.

Source of fund:

Item of source of revenue % of money to be collected
Income tax 11%
Corporate tax 21%
Central excise 11%
Customs duty 10%
Service and other taxes 7%
Interest from investment 2%
Other income 9%
Borrowings 29%
Total 100%

 

 

 

 

Use of fund:

Item of use of revenue % of money to be spent
Central govt plan 22%
Interest payment on previous loans 18%
Unplanned expenditure of union territories 4%
Defense 11%
Other non-planned expenditure 11%
State share of taxes 17%
Subsidies 10%
Expenses related to union territories 7%
Total 100%

 

PM: Now it is clear as to how big a mess UPA govt has created. We need to think out of the box and tread carefully, of course also understanding and not upsetting the sentiment of the people. Let us do some careful thinking.

FM: Thank you sir.

As people of India did we care to know these facts before?

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One Response to Indian budget and its complexities: A lesson in humility – By Dr. Bobby Srinivasan and Dr. Sudhakar Balachandran

  1. Praveen says:

    Thank you Sir for explaining these complex things in such a simple words…

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