Lockdown and Fiscal Management

What is the issue?

One of the biggest casualities of the lockdown is the government.
All governments need money to function and if revenue does not increase it is hard to meet committed expenditure.

What is the reality?

For the Central government, there is a solution in the form of higher borrowing, for which it must ideologically steer away from FRBM.
But States find it hard to manage, and end up cutting discretionary expenditure.

Why is there a decline in tax flow?

Income tax collections are lower by around ₹35,000 crore. There are three reasons for this.
There were job cuts by several corporates, which directly meant a lower salary bill and hence tax payments.
The companies have lowered the salaries of their staff by different scales for the year.
All companies disburse their variable pay to their employees in the first quarter.
The fourth-quarter as well as FY20 results of companies showed decline in both the topline and bottomline.
Hence, the payouts to employees were lower, which gets reflected in a one-time loss for the government.

There is a continuation in the trend of falling sales and profits of companies for Q1 FY21.

With profits declining, the tax outflow would come down, which is reflected in the lower collections so far.
It may be hoped that there would be some pick-up in Q3 and Q4.
This can help steady collections and avoid a sharp fall in this period.

Why is there a shortfall in GST collections?

The major casualty is the GST, where there has been a 50% decline.
[The GST is a tax imposed on all goods and services.]
For tax collections to increase, consumption should go up.
The localised periodic lockdowns have ensured that households have only shopped the essentials, which have lower GST rates.
For the first two months, e-commerce was not allowed to deliver non-essentials.
The result was less spending and lower revenue for the government.

With limited removal of restrictions until September, it is unlikely that there will be any pick-up and the government will witness sharp fall in GST collections.

Why is there a trade deficit?

The trade deficit has been widening with imports declining faster than exports due to a sharply falling economy.
This lowers demand as well as crude prices, customs collection too have declined by around ₹24,000 crore.
This does not look like it will be compensated for in the future, as imports would continue to move in a downward trajectory.

Is there any decline in excise collections?

The Central excise collections have more or less been maintained.
This can be attributed to the government increasing the duty on petrol and diesel as well as sin products.
If these items were subsumed under the GST, the government would have had no control over the collections.

What would be the economic effects?

State budgets - The first consequence of such sharp slippages in meeting targets is that the State budgets would get affected.
During the first quarter, the transfers to States were ₹1.34 lakh crore as against ₹1.49 lakh crore last year.
The shortfalls in the Centre’s revenue would translate into the same for States.
This in turn have to cut back on expenditure.

Expenditure - The second implication is that the Centre has to take a tough call on the expenditure side.
So far this quarter, the total expenditure has been higher by around 13% at ₹8.16 lakh crore.
This is mainly due to the relief expenditure invoked, that was said to be outside what was budgeted . Two possibilities exist.

There can be a cut in capex during the year even though the government has enhanced such allocations to keep spending up.
There could be some sharp cuts in subsidies.

As the government has announced it is giving free foodgrains to the poor for six months, it would remove the need to provide any food subsidy separately.
This is why the food subsidy bill this time is much lower than that of last year.

How would borrowing help?

Higher borrowing will be necessitated due to a higher fiscal deficit.
The government slashed interest rates on small savings drastically in April, so there will be a lower allocation of funds.
Hence higher market borrowing will be necessitated.
The government has already increased the borrowing programme from ₹7.8 lakh crore to ₹12 lakh crore for the year.
Such borrowing will definitely have a bearing on bond yields.
This is why they are still quite intransigent in the downward direction, even though there is surplus liquidity.
The RBI has brought in a new benchmark security that had a lower yield.
The market remains uncertain.

Source: Business Line