A Changing Fiscal Framework

The Hindu     24th February 2021     Save    

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.