According to Saggar, next week's budget could prove to be a defining moment for the direction the Indian fiscal takes.
The Union Budget 2023-24 should aim to cut the fiscal deficit to 5.5 percent of GDP in 2023-24, says Mridul Saggar, a former member of the Reserve Bank of India's (RBI) Monetary Policy Committee, now a professor at the Indian Institute of Management, Kozhikode.
"The government, in recent years, has exercised commendable fiscal restraint… The senior bureaucrats in North Block deserve to be complimented for the eagle eye they have kept on budgetary components and on taking quick decisions and yet not derailing the fiscal position," Saggar told Moneycontrol in an interview.
"The forthcoming budget, however, could prove to be a defining moment for the direction the Indian fiscal takes," he added.
According to Saggar, the 2023-24 Budget should be framed with the recognition that having met unprecedented shocks, it is now time to shift back to "aggressive" fiscal consolidation.
"I would reiterate that it is imperative to push for building fiscal space by targeting a fiscal deficit of 5.5 percent of GDP in the forthcoming budget. This will enable India to reduce the user cost of capital by lowering government market borrowings and thus the huge draft of the government on household financial savings. It will also create some fiscal space to meet future shocks," Saggar said.
He also pointed out that as per the 15th Finance Commission's recommended baseline path for fiscal consolidation, the Centre's fiscal deficit should be 5 percent in 2023-24 and, therefore, a 5.5 percent target need not be considered over-aggressive.
Saggar is currently Professor of Practice at IIM-Kozhikode. He was formerly an Executive Director at the RBI and was a member of the MPC from August 2020 to April 2022. He stressed that the views expressed in this interview were strictly personal and should not be attributed to those of any of his affiliated institutions.
Saggar's view on what next year's fiscal deficit target should be is more aggressive than what the markets think is likely. According to a Moneycontrol poll, economists see Finance Minister Nirmala Sitharaman announcing a target of 5.9 percent for 2023-24 on February 1. The poll seeks responses on the expected fiscal deficit and not what may be desirable, which is what Saggar talked about in the interview.
The former MPC member argued that those who think that a move to 5.5 percent from 6.4 percent this year may be too large can look at a successful fiscal consolidation in the Euro Area.
After posting a general government fiscal deficit of 6.2 percent and 6.3 percent in 2009 and 2010 respectively, the Euro Area rapidly improved its finances and reduced the deficit to a mere 0.4 percent in 2018. This allowed the region to then expand its fiscal deficit to 7 percent in 2020 to tackle the pandemic, which was then lowered again and is likely to be in the range of 3.5-3.8 percent in 2022.
"Such is the power of counter-cyclical fiscal policies if fiscal consolidation is carried out in time. I firmly believe that it is possible to achieve this through divestment via stake sales, asset monetisation, and more so by redefining the role of government to a narrower domain, one that it can more effectively carry to make an impact," Saggar said.
"There are two choices before the government. First, to accept the status quo by accepting that fiscal outcomes are sticky and not much can be done. Second, to do more by causing perturbations and sending strong signals that India during its G20 Presidency is ready to seize the moment to move to a sustainable high growth path. And encourage international risk sharing in India’s golden future — a return to the 'Sone ki Chidiya' spirit."
Whatever level of deficit the Centre decides to target for next year, it will only be a step towards the eventual objective of 3 percent, which according to Saggar should be kept in "distant vision". Before that comes the medium-term target of 4.5 percent by 2025-26, which he thinks looks "hard to reach in the present milieu, unless the government starts downsizing itself in the remaining period".
Fiscal consolidation is also necessary because the government's large market borrowing, year after year, has led to interest rates remaining high "as most pricing of financial products takes place from the belly of the yield curve", Saggar said.
The IIM professor sees a "big bond rally" if the Centre can limit its gross market borrowing for next year under Rs 14.5 lakh crore.
Commenting on the RBI's actions during the coronavirus pandemic, Saggar said the central bank did "everything under the sun" to push against rising government bond yields, which indirectly helped keep spreads on corporate papers low. However, with the return of some semblance of normalcy, it becomes the responsibility of the Budget to ensure the government's borrowing programme does not crowd out private investment or lead to an increase in interest rates, which can then impede investments.
"In the game of chickens, the central bank does not have the luxury to let yields run out of control. But if the central bank had to do heavy lifting in crisis times, it is only fair that this is reversed in normal times," Saggar said.
Another keenly-eyed aspect of the Budget will be the government's capital expenditure target, which has increased sharply in recent years. Economists see it hitting another record high of just under Rs 9 lakh crore next year from the budget estimate of Rs 7.5 lakh crore for 2022-23.
Saggar, too, thinks the focus on capex must continue. At the same time, the government must also "downsize itself", which would lead to some improved public savings, while using the proceeds from divestment and asset monetisation to retire some of public debt.
According to Saggar, the trend of rising capex share in overall government spending can be pushed further.
"Let us not forget that capex's share in overall spending averaged 38.3 percent during the two decades from 1970-71 to 1990-91. Just because the government now has access to large market finance at financially repressed rates, it cannot afford to profligate itself and fritter money on current spending that does not result in multi-period upliftment of growth," he said.
For 2022-23, capex was budgeted at 19 percent of the Centre's total expenditure, higher than in recent years, but Saggar feels there is scope for enhancement.
The government has pushed its capex to crowd in the private sector. Saggar is seeing signs of an upcycle in private investment beginning to take shape, although its strength is contingent on policy direction, both domestically and globally. He explained that it is a 'bunker mentality' to think that public investment is substituting private investment in an era of risk-off.
The learning effects of the Covid pandemic have enabled the private sector to deal with supply disruptions, said Saggar, and, in fact, more public investment is now needed to crowd-in greater private investment and reconstruct supply chains. Fiscal prudence does not necessarily mean lower capex if it comes from restructuring administration and will instead go a long way in reviving animal spirits.
Asked to comment on the merits of supporting the manufacturing sector over services to boost growth, Saggar noted that while India has a comparative advantage in many services, the manufacturing sector is suffering from obsolescence.
"The government can support only up to a point, and we need to encourage some process of creative destruction that provides an impetus both to brownfield and greenfield investments and allow dinosaurs to face extinction. In any case, government supports, like the production-linked Incentive scheme, should be available for a limited period only and care should be taken that new businesses are efficient," he said.
