Finance Minister Nirmala Sitharaman presented the Union Budget for 2020-21 amid very high expectations of a demand stimulus for the economy. The slowdown in the economy, combined with the existing fiscal stress, made this a challenging task.
While the budget had a number of steps that could help in improving demand, it fell short of the expectations of a big fiscal stimulus.
To be realistic, there was little scope for a big fiscal stimulus. The finance minister seemed to have tried to do the best under the given circumstances. She could perhaps have tried to do more on policy and legislative changes that are not necessarily tax, revenue and expenditure-related. However, those can be done later, as they are not part of the Money Bill.
Financial legislative reform, such as setting up of a Public Debt Management Agency or a Financial Resolution Authority, can be done in the coming months. The direction in which the economy goes will critically depend on the reforms that follow this budget.
Also read: Defence pension jumps 13.6% in Budget 2020, but overall allocation rises just 3%
More transparency on fiscal deficit
The budget took a fiscal expansionary stance. To her credit, Sitharaman appears to have been more transparent about the fiscal deficit than previous years.
First, she announced a deviation from the Fiscal Responsibility and Budget Management Act target. Fiscal deficits have been estimated at of 3.8 per cent for 2019-20 (revised estimate), and 3.5 per cent for 2020-21 (budget estimate). While the FRBM targets were 3.3 per cent for year 2019-20, and 3 per cent for 2020-21, the FRBM Act provides for a trigger mechanism for a deviation from the estimated fiscal deficit. Sitharaman took a deviation of 0.5 per cent for both years.
Second, along with this deviation, Sitharaman said she would provide a list of government borrowing that did not appear in the government borrowing numbers. This is a welcome step towards improving the credibility of budget numbers.
Also read: Nirmala Sitharaman raises FY20 fiscal deficit projection to 3.8%, FY21 target set at 3.5%
In a boost to the economy, the finance minister gave some tax breaks to households earning less than Rs 15 lakh per annum. The new tax slabs are a parallel system of income tax slabs, which can be chosen if the taxpayer does not wish to avail of exemptions. Details about the exemptions that have to be given up will determine the outcome of this proposal.
One of the most utilised exemptions is under Section 80C of the Income Tax Act, as most salaried people save for pension or provident fund, or buy insurance. If this is one of the exemptions that people give up to opt for the lower tax rate, its effect may be uncertain. People are not likely to save in these instruments if there are no tax exemptions.
On the one hand, people may spend more as they do not save, and this may give a boost to demand. On the other, this may have the effect of reducing long-term savings for investment, which are already inadequate in the Indian economy.
The overall effect of the income tax measures in the budget on overall demand may be limited.
Also read: Lower income tax rates but no deductions — Modi govt creates optional second tax system
Fiscal boost to the economy
The much-expected fiscal boost to the economy, which was perhaps too unrealistic, did not materialise, and many people seem to be disappointed with the budget.
However, this does not mean that the government cannot give the economy a boost. One of the reasons for the present crisis is the health of the financial sector. Part of the solution also lies in steps that can be taken to improve the health of the financial system. For many of these steps, it is not fiscal resources that are required.
For example, MSMEs don’t need an interest subvention as much as they need sources of credit. The banking sector in India barely takes care of about 5 per cent of the credit needs of MSMEs. The banking system lends mainly to large companies, who are willing to borrow from banks because that is the most convenient source of credit.
If the government works to develop a deep and liquid bond market, banks may then turn to the less credit-worthy MSMEs, who are being shunned today due to the presence of highly rated large corporations.
In her budget speech last year, Sitharaman had narrated a story. She cited a Tamil verse that was sung as advice to a king, and said: “A few mounds of rice from paddy that is harvested from a small piece of land would suffice for an elephant. But what if the elephant itself enters the field and starts eating? What it eats would be far less than what it would trample over!”
The tax department needs to heed the advice of Finance Minister Sitharaman. Perhaps that is why she announced that she will introduce a taxpayers’ charter to prevent harassment.
This is something that may go some way in improving investor confidence, and preventing a contraction of the economy.
Also read: Has Nirmala Sitharaman delivered on high Budget expectations or did slowdown leave no room?
The author is an economist and a professor at the National Institute of Public Finance and Policy. Views are personal.
New tax payers may not save because of tax planning in low return tax saving instruments or house buying. Rather, they will invest now in MF, bonds and shares giving high returns. The government has also not to give subsidies on interest on PPF, EPF, housing loans etc. So now the people will buy hose when they need it and they will rent it otherwise. Buying house is any way loosing charm for new generation in an era of Uber and Ola. This government will change our habits of doing many things which we were used to do.
It seems to me that under this government, the union budget will no longer be a medium for anouncing the future plans of government for the country. Instead, it will be limited to placing a financial statement before the Parliament for approval. Any legislative change required, if not related to money bill, would be done outside the budget.
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