Saturday, 11 July 2015

India’s Growth Performance and Prospect: Significant Weaknesses Still Present


The purpose of this note is to compare the performance of the Indian economy in 2014-15 with that in 2013-14. It may be noted that a large part of 2014-15 was under the rule of the NDA government while 2013-14 was entirely under the UPA rule.  This comparison will allow us to see what improvement has taken place in the Indian economy and where additional effort would be required in the coming years. My focus is on the real economy (that is, actual production or Gross Domestic Product, GDP) and not on prices. As far as prices are concerned, I would like to only note that the average rate of inflation (based on the Consumer Price Index), which was 9.5% during 2013-14, has come down quite significantly during 2014-15 to 6.4%. This is certainly a positive development and credit must be given to the Reserve Bank of India for achieving this.

It is now well-known that India’s premier statistical agency, the Central Statistical Organisation (CSO), starting from the base year of 2011-12, changed the methodology it employed to measure the GDP. This has meant that GDP data prior to 2011-12 cannot, at the moment, be compared to data from 2011-12 onwards. The CSO will have to convert all GDP data prior to 2011-12 to the new base year for long term comparisons to be possible. Fortunately, no such problem bedevils the comparison of 2014-15 with 2013-14. The CSO reports GDP data in two forms:[i]
  1. Gross Value Added (GVA) at basic prices. This is similar, but not equal to, GDP at factor cost that used to be reported before the change in methodology. Data for sectors of the economy, such as agriculture, mining, manufacturing, services, etc., will now only be in terms of GVA.
  2. GDP at market prices.

Even though the new methodology of the CSO is in line with world practices, as pointed out by Arvind Panagariya (Chairman, NITI Ayog), some aspects of it have left even Arvind Subramanian (Chief Economic Advisor) and Raghuram Rajan (RBI Governor) confused.[ii]

Given these preliminaries, as well as some caveats about the new methodology adopted by the CSO, what does the GDP data tell us about the performance of the economy? Figure 1 gives quarterly growth rates for 2013-14 and 2014-15 as well as growth rate for the entire year.



By and large the line for 2014-15 lies completely above that for 2013-14. However, for the whole year, the rate of growth for 2014-15 at 7.29% was only about 0.40 units greater than the rate for 2013-14 (6.90%) which was possibly the worst year of the UPA government. Does this increase in 2015-16 represent a trend? For 2015-16, the Finance Ministry expects the rate of growth to be as high as 8% to 8.5%, the RBI expects it to be 7.8%[iii] and the IMF expects it to be 7.5%.[iv] Where do I stand on this? My feeling is that the rate will be less than 8%, probably closer to 7.5%. I will elaborate on my reasons below.

Let us now look at the various sectors of the Indian economy. We first look at agriculture in Figure 2:


This sector has performed substantially worse in 2014-15 as compared to 2013-14. One important reason for this was that rainfall was only 88% of the long run average.[v] Barring Q1, every subsequent quarter saw massive decline as compared to 2013-14. Since agriculture accounts for over 16% of GVA, a problem with this sector does affect the overall rate of growth.

Manufacturing shows a much improved performance though there have been dips below the rate seen in 2013-14. See Figure 3.


 The full impact of the UPA government’s much criticized mismanagement of the economy was felt on this sector when growth rate was as low as 5.3%. There has been a recovery in 2014-15 and the rate for the full year (7.13%) was almost 2 percentage points higher.

Finally, the services sector, which has driven growth over the last few years, performed well in 2014-15. See Figure 4.


Is there enough in the growth rates that we have seen so far to suggest that India has escaped the low growth trap of UPA’s last year? Barring agriculture, there does seem to be improvement in the economy but it does not seem to be high enough to be put India on a high growth trajectory. I will reserve my judgment about 2015-16 for some more time.

One other way of looking at the performance of an economy is from the side of demand. Whatever is produced in the economy must be purchased by various segments of the economy or else it would result in unsold stocks leading to production being adjusted downwards at the next production cycle. Hence, total production in the economy i.e. GDP, should equal total demand for goods and services. Specifically,

GDP = 
   Demand by private individuals (Private Final Consumption Expenditure in Fig. 5)
+ Demand by government (Government Final Consumption Expenditure in Fig. 6)
+ Demand for investment goods in the economy (Gross Fixed Capital Formation in Fig. 7)
+ Demand from rest of the world (Exports in Figure 8)[vi]

Any shortfall in the various kinds of demands in the above expression has a tendency to pull down the GDP. Figure 6, dealing with private demand, shows no particular trend and the rate of growth for the whole year is more or less equal in 2013-14 and 2014-15. This is disconcerting since private demand is a major driver of GDP accounting for 57% of total demand in 2014-15 which has fallen marginally from 58% in 2013-14. Boost in private demand is especially important since the government has been trying hard to reduce government expenditure (which affects demand by government) in its efforts to reduce fiscal deficits.



Figure 6 shows a massive fall in government demand of almost -8% in the fourth quarter as the government tried to meet its deficits targets for 2014-15. For the year as whole, the rate of growth was 6.6% in 2014-15 as compared to 8.16% in 2013-14. By itself, this lower rate of growth is welcome since it improves government finances. However, when the government lowers its demand, other sectors must make up for this void. That does not seem to be happening.

One of the major accomplishments of the NDA government was to restore the confidence of the business sector though the magic seems to be waning one year into its rule.[vii] One indicator of improving business confidence would be investments in fixed assets (gross fixed capital formation in Figure 7). In terms of growth rate, the rate in 2014-15 at 4.65% is higher than the rate of 2.95% achieved in 2013-14. The question is whether a rate of 4.65% is good enough to boost production in the months to come. The disappointing part of the investment story is that the share of gross fixed capital formation in GDP is lower in 2014-15 (10.88%) as compared to 2013-14 (10.95%). If at all, the level of 2013-14 has been maintained but it does not seem anywhere enough to give a boost to the rate of growth of the economy in 2015-16.

The most disturbing picture, however, is that of exports (Figure 8). After registering a rate of 9.13% in Q1 of 2014-15, in every subsequent quarter, the rate of growth has been negative. For the entire year, the rate of growth was -0.76% as compared to 7.28% in 2013-14. This performance is especially dismal if we recognize that in 2014-15 the USA (a major market for Indian exports) was doing much better than in 2013-14.

The broad conclusion to emerge from the analysis so far is that, by and large, there has been an improvement in the performance of the economy in 2014-15 as compared to 2013-14. However, I have my doubts whether this improvement is significant enough to push the rate of growth to 8% or higher in 2015-16.

Looking to the Future

Having completed the first quarter of 2015-16, is it possible to anticipate how the economy might perform over the entire year? I am going to list out a set of indicators which provide some guidance in this task.

Purchasing Managers’ Index (PMI):[viii] PMI data have been known to be very useful in some of the industrialised countries for the purpose of predicting production. Its usefulness for India is still being debated. Bhattacharya and others[ix] put forward a skeptical view while Bose[x] finds the PMI useful in forecasting production. The PMI is based on a survey of purchasing executives in Indian companies.[xi] The magic number for PMI is 50. If the value of PMI is more than 50, an expansion in the economy is indicated while a value below 50 signals a contraction. Figure 9 below shows the PMI for India.


There has been a steady increase in PMI as compared to 2013-14 and it has remained above the critical value of 50. This should indicate an increase in business confidence and point towards an expansion for the future.

Non-food Bank Credit: One other factor determining business confidence and, hence, contributing to growth is non-food credit (NFC) by banks which is the lending that banks carry out to the industry. An expansion in the NFC is expected to precede increase in production. Figure 10 shows the state of NFC growth.


The data in Figure 10 shows that the NFC growth rate in 2014-15 has been continuously declining. Clearly, the information conveyed by Figure 9 and Figure 10 seems contradictory. Figure 9 suggests increasing business confidence which should have been reflected in greater demand for NFC but that does not seem to be happening as per Figure 10. Which is the better indicator of future growth? PMI or NFC? Being an economist, I would rather believe hard data (as shown in Figure 10) and be skeptical about survey data (on which PMI is based) since it is likely to be coloured by inaccurate responses due to biases and other noise.

Index of Industrial Production (IIP): This is the only information about production that is available on a monthly basis in India. However, information conveyed by IIP is not perfect and is subject to much revision. Figure 11 gives the path of IIP growth rates.


After attaining a high 5.2% in November 2014, the performance of IIP has been quite poor with declining growth rates. The data for the last three months, from March-May 2015, has been especially disappointing. There seems to be no obvious momentum that is discernible which is likely to push the IIP up in the near future. It is true that IIP covers only the industrial component of the GDP (excluding entirely the agriculture and services sector) but such a poor performance does point towards problems later in 2015-16.

Other Factors: Earlier in this note I had highlighted some other factors which do not seem to augur well for the future. I will merely list these without going into more details:
  1. Exports: The performance of exports has been extremely worrisome. Will this change in the coming months? With Europe continuing to be in doldrums and China showing uncharacteristic weakness, the prospects for the world economy and, hence, Indian exports, do not seem bright.
  2. Private Demand: Compulsions of keeping fiscal deficit under control will mean that government demand (Figure 6 above) will remain depressed. This reduction in government demand has to be compensated by private demand (Figure 5 above). However, that does not seem to be happening and this will act as further dampener to the growth prospects in the coming months.

Taking into consideration some of the factors that act as (leading and coincident) indicators of GDP growth, I am unable to be very optimistic. At the beginning of this write-up, I had expressed some skepticism at the high rate of growth of 8%-8.5% put forward by the Finance Ministry. The various indicators that I have looked at lead me to believe that rate of growth of the Indian economy will, at best, be close to what we have already seen in 2014-15, that is, a rate of about 7.5%.


Sources of Data:
  • Most of the GDP data have been obtained from the Reserve Bank of India database (www.rbi.org.in)
  • IIP and CPI data are from Ministry of Statistics and Programme Implementation (http://mospi.nic.in/Mospi_New/site/Home.aspx).
  • PMI data from http://www.markiteconomics.com/Public/Page.mvc/AboutPMIData



[i] http://www.mospi.nic.in/mospi_new/upload/nad_press_release_30jan15.pdf
[ii] http://www.ndtv.com/india-news/new-gdp-numbers-based-on-scientific-methodology-niti-aayog-vice-chairman-arvind-panagariya-778355
[iii] https://rbi.org.in/Scripts/BS_PressReleaseDisplay.aspx?prid=34073
[iv] http://profit.ndtv.com/news/economy/article-india-to-clock-7-5-growth-in-2015-16-overtake-china-imf-754962
[v] Economic Survey 2014-15, p. 18
[vi] In fact, this should be Net Exports = Exports – Imports
[vii] http://www.livemint.com/Money/BrkZyAZ3VzeO5Vlzzy3hDN/Is-the-Modi-magic-over-as-business-confidence-falls.html
[viii] http://www.markiteconomics.com/Public/Page.mvc/AboutPMIData
[ix] https://macrofinance.nipfp.org.in/PDF/02_Pr_Pandey_nowcasting.pdf
[x] http://www.icra.in/Files/MoneyFinance/suchismita%20bose.pdf









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Thursday, 23 April 2015

Net Neutrality: Some Economic Issues

A search for “net neutrality” on Google throws up more than 16 million results; “net neutrality in India” yields more than 200,000 hits. Quite clearly, the issue has got people talking. Even Rahul Gandhi spoke about it in Parliament![i] Almost a million emails in support of Net Neutrality (NN) have been sent to the Telecom Regulatory Authority of India (TRAI).[ii] Flipkart, after flirting with Airtel Zero which would have given preferential treatment to certain content providers, backed out of the deal under public pressure.
Whether one knew it or not, we were all so far living in a world of NN. No content provider was blocked, no content provider received preferential treatment; on the users’ side, no user was given preferential treatment or faster access than others who had paid the same subscription to the Internet Service Provider (ISP). This NN environment was not legally ordained; it was, in fact, the default setting of the internet. Of course, since it was not legally protected, it was not immune to attack, as started to happen in the USA with Verizon throttling Netflix but restoring speeds after Netflix paid up.[iii] The TRAI consultation paper also lists violation of NN by Reliance and Airtel.[iv] Hence, if NN is to continue, it would now need the protection of the law. This is where the matter stands and this is what has led to much passionate discussion on protecting NN.[v]
So, what is NN? Economists have made significant contributions to this issue. I strongly recommend the article by Niranjan Rajadhyaksha which provides a wonderful summary of the economics of NN.[vi] NN is understood as a regime that does not distinguish data delivered over the internet in terms of price, in terms of the identity of who is providing these data or who is using the data.[vii] The ISP connects its customer (users like you and me) to the internet (which includes all content providers such as Google, YouTube, Netflix, Skype, Whatsapp and so on) and the ISP gives content providers the “last-mile access” to its customers. Violation of NN would mean that the ISP offering the last mile access would charge a fee to content providers to reach the ISP’s customers. It will also allow the ISP to delay delivery of content from non-paying content providers or expedite delivery of content from content providers who pay a fee.

The TRAI Consultation Paper
The Telecom Regulatory Authority of India (TRAI) has also jumped into the debate with its 118 page long consultation paper. In its urge to cover all aspects of NN, and the internet in general, the paper bites off way more than it can chew and gets into areas well beyond its remit. Consider this statement from the paper: “But, the internet can also be a very dangerous place. Cyber-predators, bullies, stalkers and con artists are all online waiting to find their next victim. Children using the internet often don’t realize the risks they face online”.[viii] And this gem: “Facebook depression and sexual experimentation, that has given rise to problems such as cyber-bullying, privacy issues, and “sexting.” Other problems that merit awareness include internet addiction and concurrent sleep deprivation”.[ix] All that is missing is some sinister music from a horror film and an ominous voice-over which says: “Be afraid, very afraid”.[x] Hopefully, TRAI will soon realize that it is an internet regulator and not an internet nanny.
TRAI defines NN as: “Net neutrality (NN) is generally construed to mean that TSPs [Telecom Service Providers. In India, TSPs are ISPs] must treat all internet traffic on an equal basis, no matter its type or origin of content or means used to transmit packets”.[xi]
With this background, I will now discuss the main issues in the debate.

Issue Number 1: ISPs v. Content Providers
The interests of content providers conflict with those of the TSPs/ISPs. The main grouse of the ISPs is that content-providers free-ride on the investments of the ISPs. This conflict is best captured in the quote of Ed Whitcare, CEO of SBC, a communications company: “How do you think they’re [that is, Google, Microsoft Messenger, etc.] going to get to customers? Through a broadband pipe. Cable companies have them. We have them. Now what they would like to do is use my pipes free, but I ain’t going to let them do that because we have spent this capital and we have to have a return on it”.[xii] The ISPs have the customers, but that is not of much value unless these customers consume something from the internet. Hardly any of the ISPs are content providers and, hence, depend on third-party content providers to provide content to their customers. Right now, ISPs get their revenues from charging only their customers for using the internet, but a change in that business model is what ISPs are looking for.

Issue Number 2: Externality of Streaming Video
Viewership of streaming videos has grown by leaps and bounds. It is estimated that, worldwide, 70% of bandwidth is consumed for video streaming; in India, the estimate is 36%.[xiii] In economics terminology, a person viewing streaming video imposes an externality (an unintended cost imposed on others by one person’s actions) on others since it reduces the bandwidth available for other customers and slows down the speeds available to them. This is much like congestion on highways where each driver’s individual decision to use the car adds to the congestion and reduces the speed for other drivers. Economics suggests that the person imposing the externality should be made to bear its cost.[xiv] On the other side, providers of video streaming (e.g. Netflix, Youtube) also consume a huge share of the bandwidth: Netflix accounted for 34.2% of all downstream usage during primetime hours, up from 31.6% in the second half of 2013.[xv] With such massive consumption, internet’s version of the Gresham’s law will operate: video streaming could drive out (or, at least, slow down) the content of other providers. Braham Singh makes a strong case for a “video track” which would involve payments from video content providers.[xvi] Can additional payment be extracted from consumers of streaming video?
ISPs already charge different prices for different classes of service.[xvii] For example, Airtel’s plans range from (a) 3GB data transfer quota at 2MBPS download speed at Rs. 799 per month to (b) no quota for data transfer but download speed of 16MBPS till 30 GB download and 512 KBPS after that.[xviii] Economides and Hermalin argue against even such differential tiers of service on the grounds that it violates NN and welfare is reduced due to such differentiation.[xix] The paid-for “video track” mentioned above could be imposed over and above tiered services that are already in place. But, who should make the additional payment for video content: users or providers? In a sense, since both “pollute” the internet by excessive use of bandwidth, the polluter pays principle should apply to both. Of course, being fewer in number, as compared to users, it would be easier to charge video content providers.  Besides, if a fee is imposed on, say Netflix, the content provider would, possibly, pass on these charges to its subscribers, depending on the extent of competition it faces.

Issue Number 3: Stealing ISPs Revenue
The interests of content providers who provide communication services (e.g. Skype and Whatsapp) conflict with those of the TSPs/ISPs. The TSPs provide calling and messaging services which are facing a losing battle with Skype and Whatsapp. With prices of Whatsapp messages and Skype set at zero in India, there has been a tremendous migration of users away from standard text messaging (SMS) and calls over the mobile networks. In India, Whatsapp has 70 million users leading to an 18% fall in SMS traffic over 2013-14.[xx] Likewise, Skype calling is eating into international mobile telephones revenues. Airtel, Idea and Reliance have lost international outgoing calls to Skype and Viber.[xxi] Despite this challenge from internet-based communication services, the revenues of ISPs are expected to grow by 75% by 2020, rising from a level of $28 billion in 2013.[xxii]
The TSPs fear that allowing unregulated communication services like Whatsapp and Skype will disrupt their businesses and “derail their investment capabilities”.[xxiii] The contention of the TSPs is that they have invested in building the infrastructure (capital costs) and incurred other costs associated with operation of the network (cost of spectrum, License Fee, Spectrum Usage Charge, etc.) but with the communication service providers free riding on their networks, the loss of revenues will adversely impact the rates of returns to ISPs.[xxiv] This has, of course, been disputed. Big telecom companies like Vodafone, which operates in Europe and India, have been seen to be quite profitable.[xxv]

Issue Number 4: Recovering from Spectrum Bidding Orgy
The recent auction of spectrum earned for the Government of India Rs. 109,874 crores ($18 billion).[xxvi] There has been much appreciation for this, especially when contrasted with the allocation of spectrum under the UPA. There were two problems with the allocation of spectrum by the UPA. The first problem was the process was opaque and open to manipulation, both of which led to massive corruption. The second problem was the feeling the spectrum was given away cheaply leading to a revenue loss of Rs. 176,000 crore as (over) estimated by the Comptroller and Auditor General of India.[xxvii] Of the two, the real problem was the corruption and manipulation of the allocation process and not the supposed loss in allocating the spectrum because making the spectrum available at a “loss-making” price led to the spectacular explosion of mobile telephony in India.[xxviii] The presumed losses to the exchequer need to be balanced out against the gains from the expansion of mobile telephony. An ICRIER study has shown that mobile phones have improved the productivity of agriculture in India.[xxix] Kathuria and others estimate that every 10% increase in mobile penetration rate raises economic growth rate by 1.2%.[xxx] [xxxi]
In view of the massive expansion witnessed by mobile telephony in India over the last few years, I am not convinced that raising $18 billion in the recent spectrum auction is unambiguously a good thing. The winning bids that were made by the telecom companies are likely to leave them with bloated debts for some time.[xxxii] A winning bid that cripple the winner is often dubbed the “winner’s curse”! It is expected that debt servicing is likely to go up as a consequence of the spectrum auction.[xxxiii] Naturally, the telecom companies would like to raise mobile call rates.[xxxiv] However, the Telecom Minister has warned the telecom companies that they should not raise call rates and that the quality of service should not suffer.[xxxv]
How is all this related to NN? The TSPs/ISPs find themselves in a bind: rising debt levels due to their winning bids for spectrum, the inability to raise call rates and the insistence that the quality of service not suffer. The way out for these companies is to (1) increase internet usage charges paid by its customers or push them to higher tiered service and/or (2) permit last mile connectivity to only those content providers who pay fees to the TSPs/ISPs. I have stated above that additional charges for customers of streaming video are efficient in an economic sense in view of the externalities involved. Charging streaming video providers, such as Netflix, might also have some merit given their excessive use of a scarce resource. However, charging other (non-video) content providers is likely to compromise customer welfare quite significantly as I discuss in the next issue.

Issue Number 5: Charging Fees for Last Mile Connectivity
Apart from the paid “video track” mentioned above, any further restriction on content providers, in the form of fees and, perhaps, slowing down the speeds of content providers who do not pay these fees, would amount to serious discrimination among content providers. It is possible that the big content providers e.g. Google, Whatsapp and Skype, might well be able to pay fees to all ISPs to be present in their bouquet of content providers, but smaller ones might be priced out completely or they may pick and choose ISPs where they would like to be present. So, you might find, say Flipkart, on one ISP but not another. From a consumer’s point of view this would be an added restriction (apart from the tiered service restriction) on their choices. Consumers would find that while they are able to get their fill of Google and Skype, availability of other content providers would be severely rationed and in some cases arbitrarily set to zero (when a content provider refuses to pay fees to the ISPs). Clearly, this violation of NN will wreak havoc with the choices of users, business plans of smaller content providers and development of new content providers. Fragmentation of the internet is the real danger here.


[v] The AIB group came in for much criticism for its roast of Ranveer Singh and Arjun Kapoor. However, this video on NN is getting welcome attention: https://www.youtube.com/watch?v=vxaFnc-MoVE
[vii] Nicholas Economides and Joacim Tåg: “Network neutrality on the Internet: A two-sided market analysis”, http://www.stern.nyu.edu/networks/Economides_Tag_Net_Neutrality.pdf
[x] A line from the film ‘The Fly’ spoken by Geena Davis’s character; http://www.imdb.com/title/tt0091064/trivia
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Saturday, 7 March 2015

Budget 2015-16: An Evaluation

The budget for 2015-16 paints a wonderful vision for India which, it is hoped, will become a reality by 2022. Some elements of this vision are:
  1. A roof for each family in India. This would require building 6 crore houses in India
  2. Each house in the country should have basic facilities of 24-hour power supply, clean drinking water, a toilet, and be connected to a road
  3. Electrification, by 2020, of the remaining 20,000 villages in the country
  4. Connecting each of the 178,000 unconnected habitations by all-weather roads
  5. Providing medical services in each village and city
  6. Upgrading over 80,000 secondary schools and adding or upgrading 75,000 junior/middle schools to the senior secondary level
  7. Bringing the Eastern and North Eastern regions on par with the rest of the country

Obviously, the items listed above are unexceptionable and there can be no disagreement about the desirability of bringing about these changes. However, unless there is a concrete course of action regarding how this vision is to be realized, it remains a fairy tale of the “Garibi Hatao” kind that we had witnessed during Indira Gandhi’s regime. Arun Jaitley’s strategy for achieving these objectives is enhanced investments leading to high rates of growth. But the Finance Minister is a realist and clearly recognizes the challenges facing the economy. These are spelt out in his Budget Speech (paragraphs 18-22):
  • Reviving agricultural incomes
  • Increasing investment, especially public investment in the short run
  • Boosting the manufacturing sector
  • Maintaining fiscal discipline

Of course, Jaitley is not obsessed with growth alone and pays due respect to social security. In a sense, he straddles the philosophies of both Amartya Sen (with emphasis on social security) and Jagdish Bhagwati (with prior emphasis on growth).

The NDA government has been dealt a wonderful hand in the first year of its rule and it is like manna from heaven: it can claim very little credit for it. But then, to be successful, the government has to make best use of lucky breaks. The Central Statistical Organisation (CSO) has handed the NDA government a miraculously revived economy. The change of base for measuring the GDP has led a sudden increase in the growth rates for the past few years.[i] As per the earlier methodology, the rate of growth of GDP in 2013-14 was 5.1%, which has now been revised upward to 6.9%. We still don’t know what revisions might yet take place for the data in the years prior to 2013-14. But an interesting question remains: Is it possible that the performance of the UPA was not as bad as the old methodology made it out to be? We will not know the answer to this question till the CSO goes back and revises historical data as per the new methodology. This upward revision of 1.8 percentage points in the growth rate of 2013-14 has suddenly offered the NDA government a much higher base to work from. Given this, the rate of growth for 2014-15, at 7.8%, looks very impressive indeed. The other lucky break for the NDA government has been the dramatic decline in world oil prices since June 2014. Alongside this, the various measures that the RBI has been implementing for the last 18 months have begun to yield fruit and inflation has come down dramatically. This now opens up the possibility of interest rate cuts by the RBI[ii] which will further add to the growth momentum. It is important to see how the NDA government builds on these lucky breaks.

Investment Expenditures
To take the tide at the flood, the Budget has pushed hard on the investment front. The following major proposals have been put forward:
  • Rs 5,300 crore support for micro-irrigation, watershed development and the Pradhan Mantri Krishi Sinchai Yojana (Budget Speech, paragraph 29)
  • Bankruptcy law reform (Budget Speech, paragraph 36)
  • Increase in investment for infrastructure (mainly roads and railways) to rise by Rs. 70,000 crore in the year 2015-16, over the year 2014-15 (Budget Speech, paragraph 46)
  • Establishment of a National Investment and Infrastructure Fund (NIIF) with an ensure an annual flow of Rs. 20,000 crore to it (Budget Speech, paragraph 47)
  • Tweaking the PPP mode of infrastructure development (Budget Speech, paragraph 47)
  • Setting up 5 new Ultra Mega Power Projects, each of 4000 MWs (Budget Speech, paragraph 54)

 Many commentators have hailed these investment proposals of the Finance Minister and taken it as proof of his commitment for re-booting the investment activity in the economy. Two of the above proposals have an institutional dimension to it, namely, the bankruptcy law reform and the reform in the PPP mode of infrastructure development. Certainly, these are very important initiatives but only time will tell how crucial they are likely to be in boosting investment. Right now these two proposals should be viewed as showing the right intent. The other items in the list are more concrete and a more tangible evaluation is possible.

Let us consider the budgeted additional Rs. 70,000 crore to be spent 2015-16 as compared to 2014-15 for infrastructure investment in roads and railways. The Finance Minister has made it clear that this would come from budgetary outlays. As far as the Ministry of Road Transport and Highway is concerned, the budget allocation for 2013-14 on the capital account was Rs. 16,770 crore while for 2015-16 it is Rs. 33,049, which is an increase of Rs. 16,279. The allocation on the capital account for railways in 2013-14 was Rs. 30,100 and, in 2015-16, it is Rs. 40,000, an increase of Rs. 9,900. Hence, for roads and railways, the combined additional capital expenditure for 2015-16 is Rs. 26,179 crores which is only 37% of the additional Rs. 70,000 crores mentioned by the Finance Minister. This implies that the remaining 63% will have to be funded from additional Internal and External Budgetary Resources (IEBR) which is made up of profits, loans or equity of PSUs. How likely is it that the required IEBR will be forthcoming? Considering the budgets from 2010-11 to 2014-15, actual IEBR have been about 74% of the budgeted amount. Given this uncertainty associated with respect to IEBR, one cannot be confident that the target for additional infrastructure investment will be met.

As far as the National Investment and Infrastructure Fund is concerned, no allocations have been made for it. In fact, the FM quite honestly states that he will now go about finding the required funds. The 5 Ultra Mega Power Projects are at the moment mere wishful thinking. As the FM states, there is no government involvement here, and neither is any time frame stated regarding when these power projects will start nor when they will be completed. Rs. 5,300 crores have been allocated to minor irrigation, watershed development and Pradhan Mantri Krishi Sinchai Yojana (PMKSY). Very little of this is towards capital expenditure: Demands for grants numbers 1, 85 and 107 (Expenditure Budget Vol. 2) which deal with these items have allocated less than Rs. 200 crores towards capital expenditure. While some allocation for expenditure on the revenue account is required to run these schemes, the distribution between revenue and capital expenditures seems particularly adversely skewed.

Also consider the FM’s promise of building 6 crore houses by 2022 so as to put a roof over the head of each Indian family (Budget Speech, paragraph 16). No doubt the objective is laudable but it is necessary to get some idea about the magnitude of the task. Just to put matters in perspective, during the decade 2001-2011, India added 6.5 crore residential units to its housing stock.[iii] As per the vision of FM, almost the same number of units is to be added in the next 7 years. It is not clear where the funding for this is to come from. Apparently, ‘Team India’ led by the States and guided by the Central Government (Budget Speech, paragraph 16) is supposed to be in charge of this. The guidance of the Central government, at the moment, seems perfunctory. The allocation to the Ministry of Housing (Demand for Grant No. 58, Expenditure Budget Vol. II) for 2015-16 is Rs. 5634.47 crores but surprisingly all of it is on the revenue account. I would have expected at least some allocation on the capital account of the Budget. Leave alone a credible commitment, this is not even a signaling of credible intent.

Social Security Expenditures
For a government that was supposed to be the anti-thesis of what Amartya Sen stood, the Budget has given a lot of attention to social security.  Almost Rs. 35,000 crore has been allocated to Mahatma Gandhi National Rural Employment Guarantee Act (MGNREGA) which is more or less on par with what was allocated during the UPA regime. The FM has stated that “Our government is committed to supporting employment through MGNREGA. We will ensure that no one who is poor is left without employment” (Budget Scheme, paragraph 32). This is an amazing turnaround from the earlier views which had called MGNREGA a glorious failure.[iv] In fact, the Economic Survey 2014-15 is even more effusive in its endorsement of the employment guarantee scheme “The MGNREGA program has the virtue of being reasonably well-targeted” (Volume 1, p. 18). Critics of the programme had blamed it for the rise in rural wages which had made it expensive not only to hire labour in rural areas but also created a shortage of labour for industry since labour, “pampered” by high rural wages, had turned “lazy”. Incidentally, this is so reminiscent of Mitt Romney contemptuous comment about the "lazy" 47% Americans during the last US Presidential elections! In any case, Raghuram Rajan has rubbished these claims stating that MGNREGA contributed only about 10% of the rise in rural wages.[v]   

Three schemes for insurance and pension have been announced. The Pradhan Mantri Suraksha Bima Yojna will cover accidental death risk of Rs. 2 lakh for a premium of just Rs. 12 per year. How realistic is this? A quick check on the Life Insurance of India premium calculator[vi]  is quite instructive. The Jeevan Rakshak product covers accidental death. For an adult aged 27 years (this is the median age in India), for a term of 10 years and to receive a cover of Rs. 2 lakh, the yearly premium is Rs. 16,275. Sure, the product that will be offered by the government will be quite different from the example I have used, but the difference in the two premiums indicates the subsidy component that is implied by this proposal. The situation with respect to the other two products - Atal Pension Yojana  and Pradhan Mantri Jeevan Jyoti Bima Yojana  - is similar.

Fiscal Consolidation
Fiscal consolidation has been the Achilles’ Heel of Indian public finances. These finances took a big hit especially after the onset of the worldwide recession in 2008. The Economic Survey notes “failure to control expenditure, … combined with excessive counter-cyclical policies in the second phase (2009-12) led to a loss of fiscal control that contributed to the near-crisis of 2013” (Economic Survey Vol. 1, p. 20). Even though fiscal policy is supposed to be counter-cyclical (i.e. lower budget deficits or even budget surpluses when the economy is doing well), there is general criticism that Indian fiscal policy has been pro-cyclical (higher budget deficits when the economy is doing well). The Economic Survey seems to suggest that the fiscal policy after 2008 was correctly counter-cyclical even though excessively so. This is similar to the position I had put forward in an earlier post.[vii]

The Fiscal Responsibility and Budget Management (FRBM) Act was passed in 2004-05 with a target for Gross Fiscal Deficit (GFD) of 3% of GDP and a target for Revenue Deficit (RD) of 0%. The laudable objective behind these targets was that, if the RD were confined to 0% of GDP, then any borrowing arising due to the presence of GFD would be only for capital expenditures leading to increase in investments.[viii] Of course, any value of RD which raised its ratio to GDP above 0%, would imply that borrowings would be used for financing RD and that much less would be available for capital expenditures. The chart below gives the pattern of deficits over the last few years:


The gap between the GFD line and the RD line shows the quantum of borrowings required to bridge the gap which should ideally be used for capital expenditures. However, since RD is not at 0%, at least some part of the borrowings goes towards funding the revenue deficits.

The Finance Minister has stated that he has relaxed the schedule for achieving the targeted GFD of 3% of GDP and that instead of the ratio being 3.6% of GDP for 2015-16, as announced in the previous budget, it will now be 3.9% of GDP. This implies a budgeted GFD of Rs. 555,649 crore instead of the planned GFD of Rs. 512,907 crore (i.e. 3.6% of the predicted GDP for 2015-16). Thus, the FM has a leeway of Rs. 42,742 crore which, it is hoped, will be used for capital expenditure. Many of these estimates will have to be amended if the projected growth rate of GDP for 2015-16 is not realized. In nominal terms, the rate of growth for 2015-16 is projected to be almost 14% (Rs. 14,247,410 crore in 2015-16 as compared to Rs. 12,503,122 crore in 2014-15). Assuming a rate of inflation of between 5% and 6%, the rate of growth of real GDP would be between 8% and 9%. Is this growth rate realistic? Given the 7.4% rate of growth estimated for 2014-15, a rate of around 8.5% seems within reach. The only concern that I have is the recent change in methodology for measuring GDP, which as stated earlier, led to a sudden jump in the growth rate of 2013-14. It is still not clear why that jump took place but I do hope it is not a statistical anomaly which might have an impact of the growth rate being projected.

The focus on cutting and/or targeting subsidies is a major step that has been taken in the budget. Once again, a programme that was much reviled has made this targeting possible. I refer to the Aadhar project which was in the process of being wound up by the NDA government but better sense prevailed. The FM has stated that Rs. 6,335 crore have so far been transferred directly, as LPG subsidy, to 11.5 crore LPG consumers. For 2015-16, the total LPG subsidy amounts to Rs. 22,000 crore (Demand No. 75, Expenditure Vol. 2) of which Rs. 21,140 will now be under Direct Benefit Transfer for LPG (DBTL) scheme.[ix] Assuming that these subsidies are well-targeted, this represents only about 8.5% of the total subsidies bill of Rs. 243,811 crore. Plugging leakages and targeting the remaining 91% of subsidies is going to be a daunting challenge given that interests of major groups/lobbies are involved in the continuance of fertilizer subsidy, food subsidy inclusive of support prices for farmers and interest subsidies.

Conclusion
The expectation from the 2015-16 Budget was that it would usher in Big-Bang reforms and that it would be as path-breaking as the 1991 Manmohan Singh budget that brought in economic reforms. That budget did change the direction that the Indian economy had followed up until 1991 and hence it was, indeed, path-breaking. There was no need for such a radical budget at the present time. True, the budget needed to show a sense of purpose; and it needed to halt the drift in policy making that had set in; also true that it needed to give growth an impetus; and yes, it needed to signal to the Indian economy and to the world that there was a strong and sure hand in charge at the government. I would say that the Finance Minister’s Budget Speech has done all that. The importance of investment and growth has been brought to centre-stage but, despite this, the commitment to social security has not been abandoned. Both, the Budget Speech and the Economic Survey, have recognized the benign environment facing the Indian economy and both documents have emphasized the importance of taking advantage of this. My critique of the budget has been that the actual actions (in the form of allocation of funds) had not matched the words. This is a trend that I have observed over the last few budgets: impressive announcements have been made in the budget, huge sums of money have been dangled before the public, but the fine print in the other budget documents has not matched up to these grandiose announcements. This raises doubts whether budgets have become elaborate smoke and mirrors exercises which do not follow up with credible commitments in the form of assured funding. I have similar doubts about Arun Jaitley’s 2015-16 budget as well.

[viii] This is an approximation. Capital expenditures could be more than the level of borrowings since other receipts such as recovery of loans and disinvestment proceeds could also be used for capital expenditures.













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