Chidambaram's real balance sheet

The government is in a generous mood. Close on the heels of the Rs 60,000-crore farm loan waiver package announced in the 2008-09 Union Budget comes the recommendations of the Sixth Pay Commission, which are likely to be accepted. This will cost the central exchequer Rs 30,621 crore. Between now and May 2009, there are 10 Assembly elections and the next General Elections to be won, so the political imperatives behind the government’s generosity are, perhaps, understandable.

P. Chidambaram

Finance Minister P. Chidambaram has emphasised several times that he has “enough head room” to fund the increased pay for civil servants and bankroll the farm loan waiver. He, too, is referring to provisions of the FRBM Act, which states that the government has to “reduce the fiscal deficit to not more than 3 per cent of GDP by March 31, 2009”. The government’s balance sheet shows that he is almost there (officially, the fiscal deficit is at 3.1 per cent). Chidambaram is now targeting a fiscal deficit of 2.5 per cent in 2008-09. This gives him a “head room” of 50 basis points (of GDP), which comes to approximately Rs 26,500 crore. Says Finance Secretary D. Subba Rao: “The head room that the Finance Minister has spoken of should take care of the Pay Commission recommendations. And we expect the revenue buoyancy, beyond Budget estimates, to take care of the farm loan waiver.”

Now, let us do some math. Assuming that the government’s regular expenditure, plus the increased salary burden, results in a fiscal deficit of 3 per cent, as envisaged by Chidambaram, how will he account for the first tranche of Rs 25,000 crore that the government will have to provide this year for the loan waiver? The economy is slowing down. The inflation rate is at a 59-week high of 6.68 per cent.

So, the Reserve Bank of India is unlikely to ease up on interest rates, thus, impacting consumption, and, consequently, corporate profitability. In such a scenario, the expected tax buoyancy may not materialise. Says Ajit Ranade, Chief Economist, Aditya Birla Group: “Taken together, the Pay Commission recommendations and the farm loan waiver will definitely result in a fiscal deficit of over 3 per cent.”

Economists are also concerned that the Finance Ministry’s fiscal deficit estimates don’t factor in off-Budget items like oil and fertiliser subsidies. During 2007-08, special bonds, amounting to Rs 7,500 crore and Rs 23,460 crore, were issued to fertiliser and oil marketing companies, respectively. Says Joshi: “The government is suppressing the fiscal deficit through off-balance sheet items. These, I expect, will push the figure up by at least another half a percentage point in 2008-09.” Already, Chidambaram’s real balance sheet is looking a lot less impressive.

Then, the Pay Commission Report is expected to put pressure on the state governments to follow suit with similar pay increases for their employees. If empirical evidence is any guide, politicians will find it difficult to resist this pressure, especially in an election year. According to some estimates by the Finance Ministry, even a 20 per cent increase in salaries of government employees in all 26 states will result in an additional outgo of over Rs 46,000 crore annually. This is expected to increase the consolidated fiscal deficit of the Central and state governments by about 1 per cent.

The Finance Minister then has his task cut out as he seeks to keep fiscal deficit within FRBM limits. Net tax collections, economists estimate, will have to increase by 23-25 per cent if the government is to meet its budgeted deficit targets (the budget projects an increase of 18 per cent increase in net tax revenues). Will they? That’s the multi-billion dollar question.