India’s Budget Delivers on Modi’s Reform Agenda

Web Posted on : Mon, 09 Mar 2015

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India’s finance minister, Arun Jaitley, presented the central government’s budget for the fiscal year starting on April 1, 2015 (2015/16) on 28 February. The government is expected to achieve its deficit target of 4.1% of GDP for the fiscal year 2014/15 (4.4% of GDP in 2013/14). This was thanks to a combination of bold moves—such as the reduction of subsidies—but was also supported by lower global commodity prices which reduced government outlays. Going forward, the government is targeting a deficit of 3.9% of GDP in 2015/16 and expects to reach its deficit target of 3.0% in 2017/18. Notwithstanding continued fiscal consolidation, the government’s medium-term fiscal strategy is growth-friendly, with a larger share of capital spending at the expense of reduced subsidies and other cuts in current spending. However, Modi’s first full budget was not merely about fiscal arithmetics, it also represented a major statement about the Modi administration’s intentions to implement the ambitious reforms needed to unleash India’s economic potential.

In our recent 2014 India Economic Insight report, we highlighted six key reforms the government needed to implement to improve India’s growth prospects. The announced budget represents a milestone as it sets out reforms in the following three key areas.

Key Reforms Delivered In The Budget

Sources: QNB Group analysis

  1. Large public investment to reduce supply bottlenecks. One of the key reasons behind the underperformance of the Indian economy in recent years has been supply bottlenecks. These are mostly related to the lack of transport infrastructure and power shortages. The budget projects a 25.5% increase in capital spending to address these bottlenecks directly through increased public investment in transport infrastructure (railways and roads). The government also plans to build five new large power plants of 4000 megawatt each. The budget, however, remains silent on the necessary breakup of the Coal India monopoly, which is at the source of electricity shortages. Nonetheless, the increased investment spending should start addressing some of the supply bottlenecks, thus leading to higher growth over the medium term.
  2. Reducing the subsidy bill. After liberalising diesel prices in October 2014, the government now plans to follow up with an 8.6% reduction in budgeted spending on subsidies. This is partly due to lower oil prices and the de-regulation of diesel prices. But it is also a result of a more efficient delivery of subsidies to recipients. Key to the latter is the expansion of the unique identification programme (over 750m people now have unique ID cards) and the administration’s financial inclusion initiative (more than 120m accounts have been opened since mid-August 2014). These measures are expected to generate significant savings by cutting middlemen and removing duplications. They are also expected to release more budget resources for capital spending.
  3. A uniform federal goods and services tax (GST). The government has restated its commitment to implement a uniform federal GST by April 2016. A uniform federal GST is expected to be fiscally neutral for the general government (which includes the central government and the state). However, it is projected to have a positive impact on growth by eliminating state borders and therefore creating a single Indian market for goods and services.

Overall, the government expects these reforms to result into a higher growth rate of 8.0-8.5% in 2015/16. If the three reform areas outlined in the budget are fully implemented, this growth rates is likely to be achieved, making India one of the fastest growing economies in the world.

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