NEW DELHI: The Centre’s proposal to move away from a fiscal consolidation path driven by fiscal deficit to one led by a reduction in debt-GDP ratio from FY27 is not “correctly perceived,” former Reserve Bank of India Governor C Rangarajan said. He added that the focus should remain on fiscal deficit reduction with a road map to reach the FRBM-mandated 3% of GDP each for both the Centre and state governments.
Along with fiscal deficit targeting, the Centre should also target elimination of revenue deficit, which is key to reducing the debt-GDP ratio at a desirable level, said N R Bhanumurthy, Professor, NIPFP.
Tweaking the current fiscal consolidation path driven only by fiscal deficit targeting, the Budget presented on July 23 announced a new regime which will be based on an annual reduction in the debt-GDP ratio from FY27 onwards. This could essentially keep the fiscal deficit below 4.5% of GDP to serve the needs of the fastest-growing economy amid global uncertainties, without explicitly stating when it will be brought down to 3%.
“I think the two routes will achieve the same objective (debt reduction)..Some people may think there is no logic for a 3% fiscal deficit for the central government, but there is a strong logic for it,” Rangarajan said.
The logic is that the total transferable resources to the government (Centre and states) cannot be more than 6% of GDP, as the available resources for transfer are about 7.2% from household savings plus the net resources from abroad, Rangarajan said.
As a percentage of GDP, however, the households’ net financial savings in FY23 was at 5.3% of GDP, the lowest in around five decades. Between FY12- FY22 (excluding Covid-19 year FY21), the net financial savings hovered between 7-8%. It was 7.2% in FY22.
“Therefore, if you want the private sector investment also to pick up, the centre and states cannot take more than 6% together,” said Rangarajan, who was Economic Adviser to former prime minister Manmohan Singh and chairman of the 12th Finance Commission.
If the government has to have a combined fiscal deficit of over 6%, then it also has to do something to increase household savings in financial assets, he added.
After the Centre’s fiscal deficit shot up to a record 9.2% in Covid-hit F21, the Centre rolled out a consolidation path in the FY22 Budget to bring down the fiscal deficit to below 4.5% of GDP. It was at 5.6% in FY24 and is estimated to be 4.9% in FY25. However, for the period after FY26, the government has not given any rolling medium-term fiscal deficit target.
As per the FRBM Act 2018, which replaced the FRBM Act 2003, the fiscal deficit was to be brught down to 3% of GDP by FY21 and limit the central government debt to 40% of GDP by FY25. In 2017, the NK Singh Committee recommended a ceiling for general government debt of 60% — 40% for the Centre and 20% for states. The net central government debt is estimated to come down to 56.8% of GDP in FY25 from 58.2% in FY24 Revised Estimate.
When the Centre amended the FRBM Act in 2018, it removed the revenue deficit reduction targets from the law, which was a mistake, Bhanumurthy said.
“My simulations for the 15th Finance Commission showed that if you were to bring down fiscal deficit to 6% without bothering about revenue deficit, actually debt-GDP ratio will go up, not come down,” Bhanumurthy said.
The government should bring back the revenue deficit targeting as part of the FRBM as an anchor, he said.
According to Pronob Sen, former chief statistician, there is very strong relationship between fiscal deficit and debt reduction. “So long as fiscal deficit in current prices is lower than GDP growth at current prices, debt will be reduced. Debt reduction is a result of paring of fiscal deficit.”
The original FRBM Act 2003 target of a fiscal deficit of 3%, elimination of revenue deficit and reduction in debt to-GDP ratio are internally consistent with each other, he said, adding that the government should revert to it as soon as possible.
“Bringing down fiscal deficit very sharply to 3% from 4.5% is not possible. That is a constraint, Lets accept that. But a roadmap is required stating when will the government achieve 3%. The 16th Finance Commission may need to rework the FRBM roadmap,” Bhanumurthy suggested.
Source: The Financial Express
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