A Changing Fiscal Framework

Context: The increased tax burden due to excise duties cannot help growth.

Background: While the Budget indicated a 2.7 times larger fiscal deficit of 9.5% for FY2020-21, the compensation of deficit with the excise duty had gone up.

• Revised Budget shows a rise of Rs 94,000 crore on account of excise duties alone. 

Implications of raising excise duty:

• Lead to price rise: of both the final goods (purchased for consumption) and intermediate goods (essential services like public transport, hotels).
• Exacerbate inequality: With output shrinking by 7.7%, it is concluded that unemployment has risen, and the accompanying price rise will increase severe inequality.

Change in the fiscal policy regime: as justified in the Economic Survey 2020-21

• Focus on debt-financed fiscal spending: It can improve the standard of living of the entire population without necessarily removing inequality.
• Benignant inequality: even though the rich will grow richer, the poor will escape poverty.
• Strong multiplier effects: during recessions than during booms.
  • In an economic boom, state expenditure may crowd out private expenditure on account of a rise in the interest rate.
  • During recessions, private expenditure is low in any case, on account of a rise in precautionary savings, but the government is not constrained by such psychological constraints.
• Focused on the growth of GDP: which prevents debt­to­GDP ratio from exploding.

Issues with the change in the fiscal policy regime:

• Debt trap: since fiscal deficit automatically transformed into government debt and this debt tend to magnify over the years, increasing the cost of borrowing.
• Reduced creditworthiness: little room for growth-enhancing expenditure and reduces a government’s creditworthiness in the eyes of lenders.
• Growth dependence is risky for India: as its average interest rate and growth rate over the last 25 years have been 8.8% and 12.8%, respectively, inducing fear of future taxation for covering deficits.
• Distributional equality ignored: due to increased tax burdens.

Conclusion: Maintainable debt and expenditure shall be the vehicle of development as opposed to increased tax burdens.