Indian states will not like what Budget 2023 may have in store for them
Good morning! As is the case with every Union Budget, there’s no dearth of coverage and opinions (and two cents that masquerade as both) in the run-up to this year’s edition, which will be presented on February 1. But Budget 2023 stands out in context of global headwinds, and the position in which India finds itself demographically and economically. Not to mention that the ruling BJP is already in election mode. In today’s edition, Dinesh Narayanan zeroes in on the one major change finance minister Nirmala Sitharaman may announce, and why that will matter in an otherwise-safe Budget.
The pressure has started to show. Devendra Fadnavis, the Maharashtra deputy chief minister who also oversees the finance portfolio, became the first leader of the Bharatiya Janata Party (BJP) to say that he was “not negative” about the old pension scheme (OPS). Fadnavis’ comment at an election rally came days after the state chief minister and Shiv Sena leader, Eknath Shinde, said he “was positive” about the scheme.
OPS guarantees a steady income to retirees as opposed to the new pension scheme (NPS), whose returns are market-linked and, hence, relatively unpredictable. That it is reclaiming political legitimacy after being discredited and discarded as bad economic policy says much about the tightrope walk finance ministers have to do in balancing budgets. Fadnavis had earlier opposed reviving OPS, telling the Maharashtra assembly that it would cost the state exchequer an additional ₹1.1 lakh crore ($13.5 billion).
OPS has emerged as a potent campaign card after the Indian National Congress beat the BJP to wrest back Himachal Pradesh, where it promised to revert to the scheme. Congress-ruled Rajasthan, Chhattisgarh (both of which will hold elections this year), and Aam Aadmi Party-ruled Punjab are reverting to the OPS.
Although this story is about the upcoming Union Budget, the OPS debate is an excellent indicator of the political and economic context in which finance minister Nirmala Sitharaman will present it.
“The Budget speech will be more important than the Budget itself,” Pronab Sen, former chief statistician of India, told The Intersection.
The world's major economies are expected to slip into a recession or come close to it this year. The pandemic, the ongoing economic crisis triggered by the Russia-Ukraine war, and China’s poor Covid management have raised the cost of living globally, while incomes have become uncertain. India, although resilient, is not untouched by the global headwinds.
FY23 was the year in which government finances limped back to normalcy. Economic disruption had severely dented government income and raised expenditure exponentially in the previous two years. It managed to wind up a pandemic-era free-food scheme only in December 2022. By then, it had cost ₹4 lakh crore ($49 billion). The Production-Linked Incentive scheme, a financial support plan devised to prop up industry during the pandemic, has now become the mainstay of industrial policy, costing ~₹2 lakh crore ($24.5 billion). More allocations could follow this year.
This Budget is the last big chance for Prime Minister Narendra Modi’s government, before it completes its second term, to crank up the narrative of economic development and business friendliness—one Modi set nearly a decade ago as India’s first chief executive in 30 years with a full majority in Parliament. He had then sought 10 years to transform India. After the Modi government’s first Budget, the International Monetary Fund’s managing director, Christine Lagarde, called India the lone “bright spot” on a “cloudy global horizon”, with a chance to double its then ~$2 trillion economy by FY19.
A string of schemes with catchy names, such as Swachh Bharat Abhiyan, Make in India, Digital India Mission, Smart Cities Mission, Bharatmala, Sagarmala, and Namami Gange, were launched in successive Budgets as well as outside them. The 2016 demonetisation was billed as a surgical strike on black money. It was capped the next year with the Goods and Services Tax. The economy slowed subsequently, and then the pandemic washed out 2020 and 2021.
The IMF now expects India, currently a $3.5 trillion economy, to expand to $5 trillion by FY27.
Modi and BJP will seek re-election in 2024, although the party has already switched to full election mode to contest the nine state elections of 2023. India is in the international limelight, too, as it holds the presidency of the Group of 20 nations this year. That means a major thrust of the Budget will be expectation management—and the reason why you should pay more attention to the speech.
Stay the course
In any case, the finance minister will have only about 7% of incremental funds to play around with, says Pronab Sen. The rest of the Budget is mostly spoken for in earlier years. Programmes and central schemes announced in previous years need to be completed. Many of those programmes budget for future increases in tax collections as well.
Government finances have been reasonably steady, with tax collections buoyant and expenditure under control. The government’s capital expenditure—building public infrastructure such as roads, ports, railways and digital goods—has shot up, even making up for the slump in private investments.
“It is better not to rock the boat,” says NR Bhanumurthy, economist and vice-chancellor of BR Ambedkar School of Economics (BASE) University. “India is a beacon of post-Covid macro-stability with reasonable growth and moderate inflation,” Bhanumurthy told The Intersection.
India’s heavy investment in building public digital goods is expected to pay off in the coming years. According to Morgan Stanely, which predicted that the next decade will belong to India, platforms such as the Unified Payments Interface, Open Network for Digital Commerce, and Open Credit Enablement Network would form the pillars of economic growth. It expects the country to be the world’s third-largest economy and own a $10 trillion stock market before the end of the decade.
One of the key bottlenecks in India’s growth story is the country’s ability (or inability) to reap the dividends of its youth bulge. It has perhaps already become the world’s most populous country. Yet, there are not enough opportunities for its young working-age population.
Government jobs and secure pensions becoming coveted cynosures speaks to the uncertainties of private sector jobs, especially after the disruption of the pandemic.
More people are seeking steady, secure sources of income. Even seasoned executives are fleeing startups for well-established safe-havens.
India is making an effort to attract companies disengaging from China to relocate here, hoping to bump up employment opportunities for its workers. But it still has some way to go in catching the wave of the global reordering of supply chains. The government needs quick-turnaround policies to position the country both as a production base and a large market with enough purchasing power.
India’s consumption power is stagnating as its middle class—responsible for much of the growth in spending—seems to have stopped expanding at the same pace as earlier.
“The movement [of people] into the lower middle class appears to have slowed down,” says former chief statistician Sen. Tax growth would stall without growth in wages and profits.
New internet connections and smartphone sales are good indicators, as they are now essential for accessing several government services and ubiquitous applications such as digital payments. India added only one million internet subscribers between August 2021 and October 2022. Entry- to mid-level smartphone prices have risen and sales growth has slumped, clearly indicating it has hit an affordability barrier.
The government cannot increase its tax-to-GDP ratio, says global think-tank ODI’s managing director Rathin Roy. A former member of the Prime Minister’s Economic Advisory Council, Roy told Moneycontrol.com that the current buoyancy in taxes can be attributed to inflation. There is no room to raise it anymore without economic growth.
Finance minister Sitharaman has few avenues left to raise the government’s income. One way she might think of is reducing the Centre’s financial support to states (changes to the Fiscal Responsibility and Budget Management Act, 2003, are likely) as their revenues have gone up significantly. According to the RBI’s latest analysis of state finances, states have done quite well in curbing deficits. In fact, they have recovered from the pandemic well enough to record a surge in investments. The capital expenditure of all states combined is expected to grow at a robust 38.4% in FY23. That, on top of the 31.7% recorded in FY22.
BASE University’s Bhanumurthy says many states have limited capacity to absorb more devolution of funds, which often leads to profligacy. Some states such as Sikkim and Kerala, which are faced with an ageing population, are devising magnanimous schemes. Sikkim is offering citizens a raft of incentives to produce more babies. Kerala, meanwhile, is offering pension to workers under the Mahatma Gandhi National Rural Employment Guarantee Scheme.
Better state finances are also a reason why the OPS has become a viable election promise even if, from a government’s perspective, it might be bad economics to offer guaranteed payments. In the new global environment, however, many economic theories and long-held conventions might need to be revisited. And even if this is an election-year Budget, hopefully, Sitharaman would be thinking long-term rather than just FY24.
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