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Why is the government so frugal

Why is the government so frugal
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By Latha Venkatesh  Sept 3, 2021 6:27:40 PM IST (Updated)

The entire governmental machinery and mindset appear to be tilted to checking expenditure than spending to fiscally stimulate the economy. Not surprising, govt consumption is the single biggest drag on the GDP in the first quarter.

The big takeaway from the raft of data released on August 31 is that the government has cut spending at a time when its tax revenues are surging. And this isn’t lost on the financial markets: The sharp rise in bond prices this week  (and conversely the fall in yields) since Tuesday (August 31), when the Gross domestic product (GDP) and fiscal data was released, is suggesting that bond investors are also now guessing that the government may borrow less than budgeted.

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Let's start with the GDP numbers. From the expenditure side, it has four wheels: private consumption, government consumption, capex and exports. While the other three grew between 30-55 percent (because of the low base) in Q1, government consumption fell by 4.8 percent in the first quarter from year-ago levels.
Govt spendDown 4.8% YoY
Personal consumptionUp 19.3% YoY
ExportsUp 39% YoY
Goss fixed capital formationUp 55% YoY
The fiscal data is more interesting. Thanks to a sharp spike in tax collections especially in July, the year-to-date, or April-July tax collections are a whopping 160 percent above last years low base and 56 percent above even the pre-COVID April-July of 2019. Even non-tax revenues of the government are up because of the hefty RBI dividend and hence total revenues of the government are up 70 percent over the pre-COVID April-July of 2019.
April-July Fiscal data - Revenues
20212019% Rise
Tax revenue5.293.3956%
Total receipts6.83470%
In fact, the Rs6.83 lakh crore of revenue receipts constitutes 35 percent of the full-year budgeted revenues. Credit Suisse has gone back to look at the April-July receipts of the past two decades and says the government’s April-July revenues have so far averaged 19 percent of the full-year budgeted revenues.
But despite the revenue bonanza, the government's spending has taken an unusual nose-dive. Capex for April-July is 14 percent higher than a year before, but still, only 23 percent of the full-year budgeted amount. It should at least be 35 percent of full-year considering that one-third of the year is done. In fact shouldn’t the government be front loading capex, given the serious loss of jobs in the informal sector and hence the need to create employment!
April-July Fiscal Data - Capex
20212020% Rise
Capital expenditure1.28%1.12%14%
Capex higher in 2021, but only 23% of budgeted FY
Far from it. In fact, total central government expenditure in the first four months is down 4.8 percent from last year; the government has spent only 28 percent of the full-year; Credit Suisse says this is the April-July lowest expenditure in a decade.
April-July Fiscal Data -Expenditure
20212020% Rise
Total expenditure10.04%10.54%-4.80%
April-July expenditure was 28% of Budgeted FY
April-July expenditure was lowest in a decade: Credit Suisse
What explains this lower expenditure? One obvious reason could be the finance ministry's diktat issued on July 1. North Block instructed all ministries except some like health, agriculture, fertilizers, pharmaceuticals, and food to restrict their expenses to 20 percent of their annual budget per quarter. The finance ministry was probably preparing to face higher vaccinations bills or the fallout of a likely third wave that may hit tax revenues. The mandarins at the ministry probably never anticipated the surge in tax collections.
There is probably some contrary forces at work too: the fuel cess is supposed to be used for roads and infrastructure, but the cash may be coming in faster than the government’s ability to draw up infrastructure plans. Citi economist Samiran Chakraborty points out in his recent report that 9 of the top 20 ministries, which account for two-thirds of the total expenditure, spent 26 percent less than last year in the April-July period. These include crucial ministries like rural development, agriculture and communications. On the other hand, expenditure in the remaining one-third has risen 36 percent year-on-year. These include roads, railways, jal shakti and housing and urban development.
One way out would have been to give more money to the states. After all the whole logic of devolution of resources by the constitution is because state governments are closer to the people and have greater knowledge and ability to spend on sectors like education, health, agriculture and rural development, where there is a wide regional divergence. Unfortunately, the central government doesn’t seem to buy this argument. Central transfers to states have been falling in the past four years.
Transfers to statesApril-July (Rs trillion)
It's by now well known that the percentage of central funds, that has to be devolved to the states has been falling, while the amounts collected by way of cesses and surcharges are increasing. The latter doesn’t have to be shared with states, while taxes have to be.
Transfers to states - Percentage of Centre's total revenues
DevolutionCess & Surcharge
Indeed not only are transfers falling, but the Centre has also been making it tough for the states to get monies in the form of "grants-in-aid" for specific centrally sponsored schemes. The new rules require the states to bring in matching funds, and they have to put in the money upfront to get the Centre's share, pointed out Dr Arvind Mayaram former finance secretary, who now advises the Rajasthan government. As a result, Uttar Pradesh, by July, could get only 8 percent of the monies due to it in the current fiscal, while Maharashtra did only marginally better by getting 17 percent of the funds allocated to it this year.
Even in World Bank or IMF aided projects, the multilateral agencies give the funds to the central government and the Centre "reimburses" the states. Which again means states have to spend first.
All these may partly explain why the states don’t have a good record of spending fast. We looked through the Comptroller and Auditor General's data of all states and most of the large ones like Maharashtra and Uttar Pradesh have managed to spend only 19-20 percent of their annual budgeted expenditure although one-third of the year is over by July. Rajasthan did a tad better spending 27 percent of its full-year budgeted expenditure, while Kerala did the best, spending 33 percent of its full-year budget.
Officials in state governments say even the states' share of taxes which is rightfully theirs, is backloaded. States get 1/14th of their annual funds each month with a bulk of the residual getting paid to them in the March quarter.
All told, the entire governmental machinery and mindset appear to be tilted to checking expenditure than spending to fiscally stimulate the economy. Not surprising, government consumption is the single biggest drag on the GDP in the first quarter.
However, for the moment, the lower-than-expected fiscal deficit is having at least one salutary impact, as said before. Post the fiscal data release, bond dealers are guessing government may borrow less than what was budgeted. Samiran Chakraborty says, in the earlier quoted report, that borrowing could be cut by Rs 90,000 crore this year. Given the copious tax collections, dealers don’t expect the government to borrow the Rs 75,000 crore of GST compensation it gave to the states in April. This amount was to be borrowed and paid to states, but the Centre lent it from its own kitty since it was saddled with unspent balances. A further Rs 85,000 crore that is scheduled to be borrowed for GST compensation in the second half may also not be borrowed, but lent from Centre's kitty, dealers reckon.
As a result, bond yields have fallen nearly 10 basis points in early September, which, in a way can stimulate growth. But that simply won't reach the informal sector that has been deeply maimed by the pandemic and the lockdown. The Centre simply must spend and let the states spend too, in job-creating infra projects. That can both serve the end of equity and also stimulate consumption.
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