Rs.60,000 crore of debt waiver
This is a dubious idea at so many levels.
Periodic debt waivers set up incentives for farmers to be irresponsible in borrowing, knowing that they will get a waiver at a future date. The bad farmer (who had no intention to repay) benefits, while the good farmer (who thought carefully about leverage) feels stupid. The bad bank (which has a bad credit processes) gets away scot free; the good bank (that spent money on building sound credit process) feels stupid. Expect vol of bank stock prices as the speculators calculate out who gains and who loses how much by the financing strategy that's put out by the government in coming days.
I think this is the exactly wrong way to shoot for financial inclusion: it contaminates the opportunity to build a genuine financial ecosystem surrounding farmers, which can cope with the risks and requirements of these users. This decision will help to bring out the worst behaviour amongst farmers and financial firms in the future.
If the intent is to help `poor people', then landholders are the wrong target audience; poor people are those who don't have land. While 80% of holdings are covered in the debt waiver plan, the government has gone on to offer a 25% writeoff even to the top 20% of holdings. You would have got a lot more bang for the buck for agriculture by spending Rs.60,000 crore on (say) roads.
What do I think is going on? I think the UPA got started with one big idea: to do a massive expansion of welfare programs. The spending is underway, but it hasn't been delivering results. The `flagship programs of the UPA' aren't working too well, and the UPA isn't winning elections. Desperate measures suggest desperate times. This debt waiver program is a desperate effort at trying to somehow get State money to some voters. They are unwilling to question the holy cows of how education, health or poverty programs work. So they're down to this. I think it suggests elections in October 2008.
I was truly depressed watching the MPs responding to these sentences of the speech. Why on earth would they be so thrilled at something that is so patently wrong, something that can't possibly be in the interests of the people of India? On the best of days, democracy is only the least bad form of government. On a day like this, it looked truly gloomy.
This is the sort of behaviour which leads me to have a bias in favour of a market-dominated financial system. Banks are too juicy a target for politicians. A bank-dominated financial system is inherently unsafe for a country with weak institutions. With such depredations in the fray, it is safer for India to have less resources going through banking.
In addition, a culture of not repaying on debt is bad for debt-style financial contracts. As a consequence, India is turning into not just a market-dominated financial system but an equity market dominated financial system. By the latest numbers, the end-Jan market capitalisation of the CMIE Cospi index is Rs.59 trillion, which is well above 2x bigger than the 15-Feb value for non-food credit of all banks which is Rs.21.7 trillion.
At first blush, it's an impressive fiscal consolidation - we're down to a fiscal deficit of 2.5% of GDP (budget estimates). You might like to see this spreadsheet representation of `budget at a glance'. The picture is good; it is better than what you would think if you only read the budget speech. (T. N. Ninan has more on this on 8 March).
Then you layer in the off-balance sheet items of food, fertiliser and oil subsidies. This is perhaps 1% of GDP or a bit worse than that. Then you're up to atleast 3.5% of GDP which is not so good.
In the speech, the finance minister says he initiated presentation of these facts in `budget at a glance'. I couldn't find it there. What is the calculation that needs to take place and be transparently disclosed? The size of the fertilise subsidy for 2009-09 should be defined as the money owed irrevocably owed to fertiliser companies owing to the operation of the existing subsidy regime over 2008-09, under reasonable projections for the market price of fertiliser and the subsidised price that will be administered. Some of this, unfortunately, doesn't show up in the apparent size of fertiliser bonds; the government often dumps the cost on fertiliser companies and does not issue fertiliser bonds on time. In this case, what ought to be bonds issued by the government as fiscal deficit show up as bonds issued by fertiliser companies. Hence, merely counting the size of fertiliser bonds issued does not correctly measure the true deficit implications of the fertiliser subsidy regime. In similar fashion, a correct calculation about the correct entry which should be in the budget as a consequence of the oil subsidy involves making assumptions about how much petroleum product prices will be revised in 2008-09 and how much the world price of the Indian basket will turn out to be.
Then I started hunting through the budget papers looking for a bulky entry of Rs.60,000 crore for the debt waiver. This is 1.1% of GDP. It isn't there. So there's another 1.1% of GDP that's off balance sheet. Why isn't it there? I suspect it was a last minute addition to the budget speech.
We're then in the worst of all worlds. If these calculations are correct, we're down to a central gross fiscal deficit of 4.6%. In other words, we failed to harness the great business cycle upturn of the recent years to do the fiscal consolidation in these good times. And, we did this in the worst possible way: by setting up a new level of mistrust of Indian public finance data.
Sound institutional arrangements involve a government that comes to Parliament with a clear statement of what it will spend and how this will be financed. A gap between the stated deficit and the true deficit of 2% of GDP (or worse) is an unprecedented breakdown of fiscal accounting in India.
The only saving grace here is the promise made by the FM that he'll request the 13th Finance Commission to regroup and take stock on how the fiscal consolidation should now proceed.
The flagship schemes of the UPA
Over the UPA period, plan expenditure has risen to 4.5% of GDP. The first task of the next government should be to evaluate how well these flagship schemes are doing, and close down schemes that have a poor bang for the buck. There is a good case for more money going down to the third tier, by reducing the size of plan expenditure.
Failing to cut the customs rate
In my opinion, this was a mistake. The claim was made that owing to INR appreciation, local firms are having difficulties competing with imported goods. This claim does not square with the buoyant profits and rising profitability of Indian firms. There is a loss of credibility here, when compared with the clock through which customs duties only went down every year. Now, Indian industry knows this fight is up for grabs.
There are the usual pro-export noises that are made. But India never exported by having tariff barriers. Exporting only took off when tariffs were cut, thus reducing the prices of raw materials in India and exposing Indian firms to heightened competition. Not cutting tariffs was an important mistake.
The Bond-Currency-Derivatives Nexus
This was pretty neat. An article of mine about this appears in Business Standard. Also, recall that the removal of double-taxation of dividends was one of the things that the MIFC Report had brought up, as an impediment that hurts holding company structures which are required for finance. See Section 2.1, titled `The holding company structure' in Chatper 11 `Reforming financial regime governance' of the MIFC report.