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Stuck Between Left & Right

How healthy is the current state of the Indian economy? Answer: Middling to bad. The UPA government headed by Dr Manmohan is currently facing a lot of flak for the high rate of inflation, a slowdown in growth rates and deficits that threaten to burgeon out of control

How healthy is the current state of the Indian economy? Answer: Middling to bad. The United Progressive Alliance (UPA) government headed by the first Indian Prime Minister who is a professional economist is currently facing a lot of flak for the high rate of inflation, a slowdown in growth rates and deficits that threaten to burgeon out of control. Unfortunately for Dr Manmohan Singh, the first two problems are a result of factors that are entirely beyond his control.

He or his government can do precious little to protect the domestic economy from the crippling consequence of zooming international oil prices; nor, for that matter, can very much be done about an erratic monsoon.

As far as budget deficits are concerned, this is one area where the government can theoretically do something. In actual practice, however, given the political compulsions the UPA government, which is dependent on the support of 60-odd MPs belonging to the Left for its very survival in office, there is little or nothing that can be done to curtail expenditures to bring down deficits. In other words, deficits can be controlled only by increasing revenues. What has not helped matters is that the Union budget has made unrealistic assumptions about revenue collections.

When, on July 8, Finance Minister Palaniappan Chidambaram announced the first budget proposals of the new government, he had implicitly assumed that the country's gross domestic product (GDP) would grow by 12 per cent in nominal terms during the current financial year than ends in March 2005. At that time, he was hoping that the real rate of growth would be in the region of 7 per cent while the inflation rate would be contained at 5 per cent. As global crude oil prices started rising, in August, official economists privately claimed that both inflation as well as the real rate of growth of GDP would be around 6 per cent. However, as subsequent events showed, this was just wishful thinking.

As violence in Iraq continued unabated, on August 20, international prices of crude oil touched US $ 49 a barrel. Less than a month later on September 27, oil prices had breached the psychological barrier of $ 50 a barrel. Political unrest in Nigeria, pre-election tension in Venezuela, Hurricane Ivan in Mexico, a financially beleaguered Yukos in Russia, not to mention low fuel stocks in the US before winter demand peaked - these unconnected developments together contributed to no abatement of oil prices despite the efforts of the Organisation of Petroleum Exporting Countries to step up production. All of which was pretty bad news as far as India was concerned for a simple reason - we as a nation import close to three-fourths of our total requirement of crude oil and petroleum products, much of it from the troubled Persian Gulf region.

On August 18, the Ministry of Finance cut customs and excise duties on petrol, diesel, kerosene and cooking gas to protect consumers from the impact of high international prices. But this has proved to be a stop-gap measure - a move that would result in the government losing out on more than Rs 5,000 crore of revenue - since world crude prices have shown no signs of letting up. By the end of August, the annual inflation rate in India as measured by a point-to-point comparison of the wholesale price index had crossed the 8 per cent mark, the highest in nearly four years. While the inflation rate eased somewhat in the following weeks, it is clear that there is no room for complacency.

Few will be surprised if the average inflation rate is close to 7 per cent during the year. According to CERG Advisory, a private consultancy organisation headed by Omkar Goswami, former chief economist with the Confederation of Indian Industry, the headline inflation rate would stabilise somewhere between 6.5 per cent and 7 per cent at the end of March 2005. Thus, even if GDP grows by 6 per cent in real terms, the high inflation rate would upset the Finance Minister's budgetary calculations.

Compounding the situation is the fact that tax revenues have been much lower than anticipated. This has resulted in the government's revenue deficit touching 83 per cent of the full year's budget estimate at the end of August. It would thus be extremely difficult to completely wipe out the revenue deficit over the next five years, a condition stipulated in the Fiscal Responsibility and Budget Management Act that came into force three days before the presentation of the budget.

The targets of bringing down the Central government's revenue deficit from 3.6 per cent of GDP to 2.5 per cent and the fiscal deficit from 4.8 per cent of GDP to 4.4 per cent are unlikely to materialise. Consider a few more ambitious targets set by the Finance Minister that are going to be almost impossible to achieve.

The Central government's net tax revenues are slated to go up by 24.7 per cent in 2004-04 against an increase of 17.6 per cent in the previous year. Plan expenditure is slated to jump from barely 9 per cent in 2003-04 to 19.8 per cent during the current fiscal year, while non-Plan expenditure would come down from 12.7 per cent of GDP to 10.7 per cent. Income tax collections are to rise by 24 per cent (net of the education cess) whereas the actual increase last year was only 8 per cent. Service tax collections are expected to rise by a huge 70 per cent.

Given the UPA government's plans of stepping up expenditure on social services - including the proposed employment guarantee programme - and given the strong possibility that most of the revenue targets would not be met, the deficit targets will prove elusive. CERG expects the revenue deficit to be 2.9-3 per cent of GDP against the budget estimate of 2.5 per cent and the fiscal deficit to be between 4.9 per cent and 5 per cent of GDP against the budget estimate of 4.4 per cent.

The GDP figures for the first quarter paint a deceptively rosy picture of the current state of the Indian economy. During the April-June period, GDP was up 7.4 per cent with industrial production rising by 8 per cent (against 6.6 per cent in the corresponding quarter last year) and farm output growing by 3.4 per cent (against minus 0.1 per cent last year). Many claim that the investment climate in the country has improved significantly. According to the Centre for Monitoring Indian Economy, the total investment planned in India over the next five years could be as high as $ 150 billion. Even as foreign investors eye the business process outsourcing, pharmaceuticals and biotechnology sectors, the tourism industry is expecting a big boom with the number of foreign tourists coming to India likely to touch the 3.5 million by December.

But this is only one side of the story. The country's economy just cannot grow at the 8.2 per cent it did last year. Never has the Indian economy grown by 8 per cent or more in real terms for two successive years. CERG forecasts GDP growth in 2004-05 to be in the 5.4-6.3 per cent range. The September report of the organisation prepared by Arindam Mookherjee and Himanshu Saxena predicts that agricultural output may fall by 2 per cent or at best, remain at last year's level, given the "base effect", namely, the 4 per cent rise in 2003-04 following the 5.2 per cent fall in the previous year. This can be attributed to the uneven distribution of the monsoon. Industrial growth, it has been predicted, would be between 6.5 per cent and 6.7 per cent.

The Finance Minister wants to be a fiscally prudent liberaliser as well as a populist who will step up government spending on health-care, education and rural development. He will end up disappointing, if not antagonising, his friends and foes on the Left and the Right.

(The author is Director, School of Convergence and a journalist with over 25 years of experience in various media - print, Internet, radio and television.)