Fiscal Correction: Illusion and Reality

Author(s): M. Govinda Rao and H. K. Amar Nath

Source: Economic and Political Weekly, Vol. 35, No. 32 (Aug. 5-11, 2000), pp. 2806-2809
Published by: Economic and Political Weekly
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I Commentary

Fiscal Correction: Illusion

has been to highlight the achievements by
creating illusions.

and Reality Conceptual Confusion

A critical element in achieving fiscal
consolidation is to adopt a proper measure
The story offiscal adjustment in India is one of missed of fiscal imbalance. Unfortunately, the
measurement of fiscal imbalance in India
opportunities. The crisis did initiate reforms in right earnest, but
since the fiscal adjustment programme
once the immediate problems were overcome, rather than
was initiated has been shrouded in con-
achieving fiscal consolidation, the attempt in successive budgets ceptual confusion besides changing defi-
has been to create the illusion of achievingfiscal correction rather nitions. For the first time, the concept of
than really achieving it. The government has been concealing fiscal deficit was brought into limelight
deterioration in the fiscal balance by placing emphasis on the when the reform programme was initiated
in 1991. Much has been said about the
fiscal deficit rather than more meaningful summary measures, and
inappropriateness of the concept to
frequently changing its definition and method of measurement. measure the degree of fiscal imbalance'in
Analysis shows that on a comparable basis fiscal deficit reductionthe country.
has been marginal. On the contrary, otherfiscal indicators have The basic objection to the use of fiscal
shown significant deterioration. Thus the claims about fiscal deficit is the inappropriateness of the
concept itself. Fiscal deficit merely mea-
adjustment are illusory. Fiscal consolidation in India perhaps
sures the volume of borrowing by the
requires another crisis. government during the year, but does not
indicate the extent of imbalance. In other
N\ GOVINDA RAO, H K AMAR NATH ingly, fiscal consolidation, even after words, reduced fiscal deficit is consistent
attempts by three finance ministers duringwith increased revenue deficit as has
mnpetus to economic reforms in India the last ten years has remained an elusivebeen happening in recent years, and fiscal
seems to come only from serious goal. It is indeed the story of missed deficit can be simply reduced by reducing
economic crises. We were quite happy opportunities and persistent attempts at the productive items of capital expendi-
with the public sector dominated, heavy creating an illusion rather than achievingtures. In these cases, reduction of fiscal
industry based, import substituting strat- the reality. deficit does not tantamount to reducing
eo until the serious crisis of 1991 forced It has often been mentioned that one of the fiscal imbalance, and the fundamental
policy-makers to change course. How- the great achievements of Indian policy problem of fiscal correction will remain
ever, once the immediate concerns were is that despite the compulsions of pork unaddressed.
dealt with, the momentum was lost and barrel politics of a nascent democracy, a Even if the concept is taken to indicate
'business as usual' continued. The attempt consensus has evolved on the content, the fiscal condition, the ministry of fi-
has been to 'do what you can' rather than speed and sequencing of reforms. It is nance has adopted its own definition of
'do what you should'. With the deeply asserted that consensus is not only among the concept and has been changing the
entrenched 'distributional coalitions' intellectuals but also the major political definition in its attempt to show declining
opposing policy changes that wouldparties. dis- However, the recent experience deficits to the donors and the general
turb the status quo, the attempt has shows
been that contrary to these claims, there public. Thus, a number of changes in
to make symbolic changes and demon- is hardly any consensus even on matters definition and measurement have been
strate a modicum of reform rather than to not involving external liberalisation, be it introduced by the ministry of finance ever
clean the Augean stables. on downsizing the government, since it was used to measure fiscal imbal-
Like in most other reform areas, the rationalising public expenditures, publicance in the country. First, until 1991, the
story of fiscal correction in India has been enterprise reform, reform of labour mar- profits of Reserve Bank of India were used
that of a symbolic exercise. The attempt kets, removal of impediments to internalto provide subsidy to refinancing institu-
has been to take the course of leas resis-
trade, legal reform or reform of the powertions such as IDBI, ICICI, IFCI. HDFC
tance in implementing reforms. The waysector. In most of these, the reforms have and NABARD through transfers to
the government has chosen the fiscal got stuck due to opposition from specialNational Rural Credit Fund, national
indicators as targets for correction and itsinterest groups. The strategy of the policy-Industrial Credit Fund and national
various attempts at camouflaging and makers has not been to effectively dealHousing Credit Fund. From 1991 onwards,
window-dressing the numbers on with the interest groups but simply takethis is almost entirely appropriated by the
various fiscal indicators adequately convenient deviations from the established central government. While this source
demonstrates this proposition. Not surpris-path of reform. In the process, the attemptof revenue legitimately belongs to the

2806 Economic and Political Weekly August 5, 2000

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central government, it must be noted that by itself, there is nothing wrong in taking The third major adjustment in the defi-
the change in the practice vitiates inter- this as an item of receipt. However, if nition of deficit was created only last yvear
temporal comparison of both revenue and one were to make a comparison with the by excluding the state's share o': sulail
fiscal deficit. Further, it must be noted, to deficit position in 1991, when the issue of savings loans. For the purpose or i:om
the extent refinancing facilities were disinvestment was never under con- parison, it would be necessaivy i;-. to
exclude
reduced, transfen-ing the profits of Reserve sideration, it is necessary to exclude this this item. Finally, i. m[u; t ie
Bank of India to the general budget remembered
item. Even more glaring is the practice of that the GDP dvata series i i Sel
reduces private sector investments. was to
other public enterprises subscribing changed in 1993-94 and tie new
Another adjustment that was made was disinvestment. Fortunately, this practice
series on an average is higher thilln tie old
to take into account disinvestment pro- which was started last year was notseries
con-by 5.77 per cent. It is inmprt?.t tot
ceeds as an item of receipt. Here again, tinued this year. convert the GDP into a coninton Se:'t'

Table 1: Fiscal Deficit of Government of India

1990-91 1991-92 1992-93 1993-94 1994-95 1995-96 1996-97 1997-98 1998-99 1999-C0 (F.,)

Fiscai deficit as in the budget2 8.47 5.89 5.69 7.43 5.99 5.38 5.23 6.21 6 80 3.'i
Change due to GDP series change 0.46 0.32 0.31 0.42 0.28 0.29 0.33 0.34 0.37 i.33
Definitional cnange3 1.20 0.84 0.57 0.58 0.96 0.85 0.78 1.04 1.31 .
Disinvestment 0.00 0.47 0.26 -0.01 0.56 0.12 0.03 0.06 0.33 f -4
RBi profits appropriation' 0.00 0.00 0.15 0.13 0.11 0.05 0.04 0.08 0.25 J '7
Comparable Fiscal Deficit 6.81 5.19 5.22 6.56 5.42 4.42 4.19 4.97 5.71 59

Notes: 1 Prior to 1992-93 about 25% of the RBi profits was transferred to the centre a
Industrial credit fund, National Rural credit fund and National Housing credit fu
the entire profits of RBi are credited to the central government from 1992-93. A
2 Excludes transfers made to states on account of small savings and provident
3 Excludes transfers made to states on account of small savings and provident
4 Old series GDP data from 1997-98 onwards is the new series GDP data conve
5 New series GDP data for 1990-91 to 1992-93 is old series GDP data converted

Table 2: Fiscal Indicators of Government of India

(Per cent to GDP*)

1990-91 1991-92 1992-93 1993-94 1994-95 1995-96 1996-97 1997-98 1998-99 199- - L-

Revenue receipts 9.7 10.1 9.9 8.8 9.0 9.3 9.3 6.8 8.5
Revenue receipts adjusted for RBI profits1 9.7 10.1 9.8 8.7 8.9 9.3 9.2 8.8 82 9
Revenue expenditure 13.0 12.6 12.4 12.6 12.1 11.8 11.7 11.9 12.3 13.2
Revenue deficit 3.3 2.5 2.5 3.8 3.1 2.5 2.4 3 i 3.9
Adjusted revenue deficit 3.3 2.5 2.6 3.9 3.2 2.6 2.4 3.1 4.1 -i
Primary deficit 3.0 1.1 1.1 2.3 1.1 0.2 -0.2 0.6 1.3 1 2
Fiscal deficit (new definition) after adjustrmeints 6.8 5.2 5.2 6.6 5.4 4.4 4.2 5.0 5.7 6

Notes: *All figures are percentages to GDP new series. New series GDP data for 1990-91 to 1992-93 is old ser
of 1.05770.
1 Prior to 1992-93 about 25 per cent of the RBi profits was transferred to the centre and the remaining was transferred to statutory funds such ak Nca
Industrial Credit Fund, National Rural Credit Fund and National Housing Credit Fund. Subsequently, the transfers to these funds has been . wi.-it. .i; 1
the entire profits of RBI are credited to the central government.
2 Excludes transfers made to states on account of small savings and provident funds.
Sources: 1 National Accounts Statistics, Ministry of Planning, Government of India
2 Union Budget documents, Ministry of Finance, Government of India
3 Annual Reports (relevant years), Reserve Bank of India.
4 RBI Bulletins.

Table 3: Central Assistance to States

(Per cent to GDP*)

1990-91 1991-92 1992-93 1993-94 1994-95 1995-96 1996-97 1997-98 1998-99 91 (0-R-,

Central assistance to states 6.67 6.41 6.32 6.16 5.90 5.51 5.56 6.03 5.38 5.60
Current transfers 4.80 4.97 5.13 5.05 4.44 4.25 4.27 4.47 3.64 3.80
(1) Tax devolution 2.57 2.64 2.75 2.59 2.46 2.48 2.57 2.87 2.22.?
(2) Grants in aid to states 2.23 2.33 2.38 2.46 1.98 1.78 1.70 1.60 1.42 1.53
(3) Statutory grants 0.39 0.32 0.28 0.22 0.18 0.34 0.26 0.11 0.28 0.
(4) Non statutory grants 1.84 2.01 2.09 2.25 1.80 1.44 1,44 1.49 1.14 1,22
(5) Other assistance (net) 1.87 1.44 1. 9 1.11 1.46 1.25 1.29 1.56 1.73 1.8 C
Capital transfers
Loans and advances made to states(net) 1.87 1.44 1.19 1.11 1.46 1.25 1.29 1.56 1.73 1.80

Notes: * All the figures are percentages to GDP new series. New series GDP data for 90-91 to 9
of 1.05770.
# Excludes Share of States in Small Savings and Provident Funds.
Sources: National Accounts Statistics.
Union Budget Documents.
RBI Bulletins and RBI Annual Report.

Economic and Political Weekly August 5, 2000 2807(

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before the deficit as a percentage of GDP Figure 1: Trend in Fiscai Deficit
is obtained. 10. 00 -

8.00 0ia....-c ..... d.etY

Fiscal Adjustment
Table 1 presents the result of various 8 .00 - -------- - - -- _-- ..----. --
adjustments on fiscal deficit shown in the
budgets since 1991. Thus, if we go by the
numbers shown in the budget disregarding
0.00 -- -r . .---_ ---_ -
the adjustments, the fiscal deficit as a
percentage of GDP is seen to have de- Kb ^ c^?3 Cb c5 0 cp o
clined from 8.4 in 1991 to 5.1 in 1999-
2000. However, when the deficit numbers
are made comparable over time, the de-
Figure 2: Fiscal Performance Indicator
cline is by just about 0.8 percentage point
from 6.8 per cent in 1991 to 6 per cent 8.0
in
1999-2000. In other words excluding states'
share of small savings collections from ' 6.0 .....
centre's fiscal deficit would have reduced Fiscal deficit

the fiscal deficit of the centre in 1990-91

4.0 _
by 1.2 percentage points. Another 0.5 z
3.0
x

percentage point is accounted for by the

-S- - - ---.
change in the GDP series. Thus, over one o 2.0 , CT ii
half of the reduction in the fiscal deficit
) 1.0
shown in the budgets is accounted for by ----- ------- --x ----------.-- ----- --- --- --
these two factors alone. In addition to
0.0s i; 3
the above disinvestment of the public
sector and profits appropriated by the
1.0h,'\
L' W. ' ' > x x'
K b KK

Reserve Bank of India on a comparable

sion recommendations shot up the revenue
basis account for another 0.6 percentage :.hort and ccntinuous deterioration foro
point reduction in fiscal deficits.deficit
The to more than 4 per cent of GDP. 4.'7 ip,er cent in 1990-91 to less than 2 per
actual reduction in fiscal deficit achieved Thus, even as fiscal deficit has declined cent i!' 1(99-2000. To he sure, the dete-
during the decade was just about 0.8 by about 0.8 point, the revenue deficit hasrioration in the iscal situati on i n the country
percentage points. actually shown an increase by 0.7 points. has not only resuited in the displacement
The Table brings another notable feature In 1990-91, 41 per cent of the borrowingsof capital expenditure by current expen-
of fiscal adjustment during the last decade. of the central government was used to diture. but also the emphasts on containing
The maximum reduction in the deficit was finance the revenue deficit, whereasfiscal
ii deficits has caused capital expen-
in 1991-92, the year immediately follow- 1999-2000, almost 54 per cent of the diture, particularly on infrastructure
ing the crisis. There was a sharp increase borrowings are pre-empted for current facilities, to show a sharp decline. The
in the deficit in 1993-94 followed byconsumption. emphasis on reducing fiscal deficits has
attempts to contain it in the next four years. For policy purposes, primary deficitcaused
is sharp decline in spending on in-
With the implementation of the Fifth Paytaken as the relevant measure. Given the frastructure.
Commission's recommendation, however, stock of public debt and the growth rate The undesirable fiscal situation has
the fiscal deficit reached an explosiveof the economy in India, the analysis of continued to persist even after 10 years of
situation. sustainability underlines the need to havefiscal adjustment despite attempts by the
The most important issue, however, is primary surplus [Joshi and Little 1996, central government to reduce the substan-
that the fiscal deficit is not an appropriate Buiter and Patel 199'7]. While in the first
tiai burden of fiscal adjustment on the
measure of fiscal imbalance in the country. year after the crisis the primary deficitstates. The current transfers from the centre
As already mentioned, reduction in fiscal was reduced significantly, there has to the states showed a marginal increase
deficit is consistent with the increasing been no consistency in the policy. After i the initial yxears of acjustment programme
fiscal imbalance, as measured by the rev- achieving primary surplus in 1996-97, the from 4.8 per cent in 1990-91 to 5.1 per
enue deficit. As shown in Table 2, the situation was reversed and primary deficitcent in 1992-93. However, in subsequent
revenue deficit of the central governmentposition deteriorated sharply to reachyears, there h1as been a sharp reduction in
was 3.3 per cent of GDP in 1990-91. The I.2 per cent of GDP in 1999-2000 mainlythe transfers and in 1999-2000, they were
immediate corrective action taken in re- due to substantial increases in wages lower by 1.3 percentage points at 3.8 per
and salaries.
sponse to the crisis of 1 990-9 1 reduced the cent of the GDP. Significant reduction has
revenue deficit to 2.5 per cent in the next comie about in both tax devolution and in
The. poor record of fiscal adjustment
two years, but bounced back to 3.8 per cent
comes even more clearly when we analyse
statutory grants even by Planning Com-
in 1993-94. Subsequently, the finance the trends in capital expenditure. The miission and the centrally-sponsored
ministry tried to contain the deficit-but theproportion of capital expenditure and loans
schemes. The assistance given to the states
implementation of the Fifth Pay Commis-
(net of recoveries) to GDP has shown by
a way of loans too have shown marginal

2808 Economic rand Political Weekly August 5. 2000

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 Figure 3: Central Assistance to States deficit, the performance of the government
8.50 has been dismal, but to show it in better
a)<u I~~~~~ ~Total Central Assistance
light the scope and definition have been
? 6.50 -5.56 5.38 changed from time to time. In terms of
6 607
f,.6,7 6.41 ---------------
comparable fiscal deficit numbers, there is
Z14.50 - ---0
4 J 0 -I ()- 4.)7 5.13 5.( 5 not much to commend the effort to contain
Q~C]~~~ , '4.44 44 25 4.27 -.47 the imbalance. On the contrary, emphasis
0 2.50 - 3.64 3.80
on fiscal deficit has caused distortions, as
c Ix _ aft s x--x r---al L^w osx- tLc--x---^--- x
Z
a) 0.50
0.50 -----------
1.3 1.( -- --^-- -- containment of the fiscal deficit was
achieved by crowding out infrastructure
a 9' 9.9 9 . . s - 19
LI
i.*`2
..:. k .. investment expenditures at the margin.
39 ~~3`N In terms of achieving fiscal correction
in the real sense, the performance of the
decline,
gettingbut
them to the poorest ofthe decline
the poor. Thisgovernment during the last decade teavesi
over the reduced inefficiencymuch to be desired. The revenue
10-year
would have not only deficit
peri
percentage but also provided food security to therather than showing a decline
points ofhas increased G
is more or
disadvantaged groups. The. less
governmentover the years equival
and this has happened despite
deficits of the states. In other words, if followed the easiest way of simply raisingreduction in the current transfers to the
the transfers were maintained at the level issue price of foodgrains. Of course, thisstate governments. Equally worrisome is
that prevailed in 1992-93, ceteris paribus helps to reduce budgetary subsidy in thethe sharp decline in capital expenditures
revenue deficits of the states would have short term. but xvill not deal with the and the effects of infrastructure bottle-
been zero. problem of inefficiency of FCI nor willnecks
it are already visible in the economy.
fulfil the basic objective of ensuring foodThus the story of fiscal adjustment in
Creating an Illusion security to the poor. In fact, at higher India is one of choosing the wrong targets,
procurement prices the off-take of food-operating the instruments in inappropriate
grains will be lower and stocks with the
Not only that the central governmrent has ways and creating an illusion of achieving
not been able to undertake fiscal compres-FC1 ,will only add to its operating expen-
targets while the reality is entirely differ-
sion to the extent desired, but also wherediture because of storage costs and wast-ent. Indeed we cannot achieve the objec-
they have tried to reduce expenditures. the tives until we stop handling special inter-
age will be higher. Thus, while the poorest
method has not been entirely satisfactory. est groups with kid gloves. So long as this
of the poor will continue to starve, fat rats
This is mainly because the attempt has in the FCI godowns will have their fill. policy continues, fiscal correction will
been to work around special interest groups
This is a typical case of throwing the baby remain an elusive goal. Perhaps another
and not to deal with theml with firnmness. and retaining the bath water. The baby serious crisis is required to attempt a serious
called food security is dispensed with, fiscal adjustment programme. [
Thus, while the pay scales of the employ-
ees has been revised upwards as recom- and the bath water of inefficient operation
mended by the Fifth Pay Commission, of FCI is retained. Who cares for the
References
other recommendations relating to the
baby anyway?
downsising of employment, contractingThus, fiscal adjustment in India is es- William and Urjit Patel (1997): 'Solvency
Buiter,
out government jobs and imnparting effi-sentially crisis driven. Once the immediate and Fiscal Correction in India: An Analytical
ciency have not received any attention. As compulsions were met, not much steam Discussion' in Sudipta Mundle (ed), Public
was left to make real changes. Since the
regards restructuring of public enterprises, Finance, Oxford University Press
Joshi, Vijay and I M D Little (1996): India's
despite much talk, hardly anything has attempt has been only to create an illusion
Economic Reforms 1991-2001, Oxford
of fiscal adjustment, fiscal consolidation
been done. Similarly, the issue of subsidies
University Press, New Delhi.
has been under focus since 1991 when has remained an elusive goal. Illusion ofMundle, S and M Govinda Rao (1991): 'Volume
Mundle and Rao (1991) higehlightedreforms
the has been created by placing and Composition of Government Subsidies
problem, but the issue has remained atemphasis
the on an inadequate measure of in India', Economic and Political Weekly,
level of discussion. fiscal balance. Even in containing the fiscal May 4,
Even when the government has tried to
compress some of the explicit subsidies,
the method has been to steer clear of the For the Attention of Subscribers and
interest groups. In the process, sequencing Subscription Agencies Outside India
of the reforms is not always appropriate
(as in the case of power sector reforms) It has come to our notice that a large number of subscriptions to the EPW from outside
and the measures taken are not always the country together with the subscription payments sent to supposed subscription agents in
India have not been forwarded to us.
effective. A clear example of this is the
reduction of food subsidies in the recent We wish to point out to subscribers and subscription agencies outside India that all foreign
subscriptions, together with the appropriate remittances, must be forwarded to us and not
budget. First, the attempt has been to take to unauthorised third parties in India.
the easy course of raising the issue price We take no responsibility whatsoever in respect of subscriptions not registered with us.
of foodgrains rather than reducing the
MANAGER
operating costs of the Food Corporation
of India and containing subsidies by tar-

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