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> Policies> economic survey 2000-01
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Economic Survey 2000-2001
[Issues and priorities]
Possible solutions
Privatisation
1.101 In the last half century, the Government’s production activity has expanded along with fiscal deficit & dis-saving. At the same time, investment in public goods and basic physical & social infrastructure has been starved of funds and their quality has deteriorated. It is necessary to get the Government out of the business of production and enhance its presence and performance in the provision of public goods. Governments, with their elaborate bureaucratic structures, multiple layers of accountability and complex crosschecks, are unsuited to the demands of commercial production in a competitive, fast growing economy. This has been recognised in principle and a privatisation process has been initiated. Privatisation will allow Government’s capital expenditure to be allocated to public goods and basic infrastructure that is not commercially viable. A significant portion of Central capital expenditure could be reallocated this way, if all public sector units producing private goods are sold to the public. The funds received from privatisation would also help in reducing the public debt incurred for setting up these units and will put the debt-GDP ratio on a sustainable path. Most importantly, privatisation would enable the competitive public enterprises to function effectively once again and would help them in contributing to the national economy.
1.102 A significant portion of the Indian basic industry remains in the public sector. Because of the lack of resources, public sector industrial growth in the 1990s has been significantly lower than that of private sector industrial growth, and also lower than its own growth in the 1980s. Thus accelerated privatisation of the competitive segment of the public sector should also serve in stimulating industrial growth.
Expenditure control
1.103 Expenditure management has been conceived as a major plank for second-generation reforms. The core issue in this regard is minimisation of wasteful expenditure and reallocation of funds to public goods, basic infrastructure and social welfare. The Fiscal Responsibility Bill and the reports of the Expenditure Reforms Commission are designed to move the expenditure structure in this direction.
Defence expenditure
1.104 Defence expenditure had fallen from 2.7 per cent of GDP in 1990-91 to 2.2 per cent of GDP in 1996-97. Given the heightened threat perception after Kargil, this has now risen back to the level at the beginning of the 90s. If the increased demand on the equipment budget of the defence services is to be met without raising the ratio further, there is need for a deep & comprehensive introduction of modern management systems. This must cover all the defence production units, procurement systems, supply chain management, logistics and inventory.
Subsidies
1.105 Subsidies are similar to indirect taxes in that they open a gap between the cost of production and distribution, and the price paid by the subsidised buyer. With the exception of completely inelastic goods, they distort the pattern of consumption. Large subsidies have the even more serious problem of providing incentives for rent-seeking diversion and corruption. The larger the unit subsidy the larger is likely to be the leakage. As revealed in the study on subsidies conducted by the National Institute of Public Finance & Policy (NIPFP), the indirect cost of subsidies is much greater than the direct budgeted subsidies. Thus, there is a need to reduce subsidies, target remaining subsidies on the poor and search for more efficient mechanisms for protecting the poor. This requires progress in reforming the existing control systems governing the fertiliser, petroleum and sugar sectors.
1.106 The retention price system in fertiliser is one of the most anachronistic. Various studies have shown that depending on world prices, anything between 50 per cent to 75 per cent of the fertiliser subsidy goes to the producers. Several committees, such as the Hanumantha Rao Committee and the Alagh Committee, have recommended its disbandment. The sooner this is done, the quicker will normal market incentives for improvement in productivity of investment and energy efficiency come into operation. To minimise the effect on farmers, the prices of fertiliser and natural gas should move towards parity with international prices, through appropriate customs and excise duties. As the current price to farmers is close to the landed cost of urea, this is an appropriate time for aggressive action in this direction.
1.107 The coal and petroleum sectors also need to be deregulated so that fertiliser and power producers are free to use any energy input, domestic or imported. Deregulation of the coal & petroleum sectors will also ensure that domestic producers of these products face the rigours of competition on a fair and equitable basis. A competitive system will ensure that fertiliser and power producers get the best inputs at most competitive prices.
1.108 A number of other reform measures need to be taken for ensuring that the profitability of farming is enhanced and that the rural poor can share in the gains of efficiency and productivity improvement. There is need for comprehensive decontrol of production, storage, transport trade (domestic & external) and processing of agricultural goods and the inputs used in agriculture. The management of the food economy needs comprehensive reforms, including a change in the monopoly role of the FCI (Food Corporation of India) and in the administration of the PDS. Food subsidies could be either channelled into guaranteed unskilled manual employment that is self-selecting (incentive compatible) or into a food or income supplement system (for the poor) using the latest smart card technology (including stored finger prints). The sugar sector (including its inputs) should be decontrolled, removed from the PDS and the tax incidence on sugar manufacturing should be rationalised. Given the current surplus in production, these measures will ensure that the market price of sugar is close to the price currently being paid by the poor. In the long term there will be a powerful incentive for increasing efficiency through economies of scale and scope.
1.109 Co-operatives and user groups should be allowed to run the irrigation system, so that it is properly maintained and regulated for the benefit of all farmers. Forward, futures and option markets should not only be allowed in all agriculture related goods, but should be actively encouraged by the Government.
1.110 Internet telephony needs to be opened up so that Internet access and telephone can be bundled together to take the information communication revolution to the rural areas.
Departmental enterprises
1.111 Many observers have noted the large size of the Government in terms of number of employees. Few, however, realise that this is largely due to the bloated size of departmental public enterprises (DPEs) whose staff are technically employees of the Government and are shown in budget documents as such. Many would say that this is quite apt as they are infused with bureaucratic culture, subject to CAG audit and the political pressures of parliamentary oversight. This has resulted in massive overmanning of these enterprises (DPEs), a running down of capital and deterioration in service quality. The conversion of these departmental enterprises into companies is essential for infusing them with commercial culture and subjecting them to market incentives and competitive pressures. The identification of "public sector" with "state monopoly" needs to be replaced by a public sector that is owned by the people/public. Shares in these newly formed companies would then eventually be sold to the public, while retaining majority only in companies producing major defence systems. The funds generated from the sale of shares could be used to repay debt incurred by and for them. An independent regulatory authority would have to be simultaneously set up to cover ‘natural monopoly’
segments like the rail track network.
Downsizing Government
1.112 In contrast to the DPEs, downsizing of the Government administration per se, will not result in much fiscal saving. The primary purpose of such downsizing is to eliminate bureaucratic controls and to change the anachronistic command mentality still prevalent in the system. Accordingly, all employee positions of this nature must be identified and eliminated. For this to be truly effective & sustained, divisions, departments and ministries, whose primary purpose was to control and direct the economy, must be abolished. Once this is done, the Government will be forced to become a facilitator of economic growth and investment. It can then sharpen its focus on the provision of public goods and critical non-commercial segments of infrastructure, much of which is in rural areas where a majority of the poor live.
Tax reform
1.113 The direct tax reform strategy of reducing rates, broadening the tax base and modernizing tax administration has been by and large successful. Despite the rise in effective marginal rates due to levy of surcharges during the last two years, the rise in the direct tax to GDP ratio has been sustained in the short term. Maintenance of the long-term faith of honest taxpayers requires that the personal & corporate income tax rates be kept at levels that eliminate the incentives for tax evasion. Deeper and more systematic efforts are also needed for weeding out economically unjustifiable exemptions and deductions. A wholesale modernisation of the tax administration is required including extensive use of information technology, data warehousing, data mining and analysis and use of economic data. Auditing systems and procedures must be such that high-income taxpayers who are more likely to evade taxes get picked rather than those who declare the most income and pay the most tax.
1.114 The central excise system has been radically changed over the past decade. Though the introduction of CENVAT was supposed to complete this process of rationalisation and simplification, some lacunae have remained, which need to be ironed out. When completed, this process will result in a simple but equitable indirect tax system that will be easy for honest taxpayers to comply with. It will also make it more efficient and effective in blocking excise evasion. Further, a proper CENVAT will also be easily evolvable into a national VAT.
1.115 Bringing more services under the tax net can offset the likely loss of revenue through lower customs tariffs. The growing contribution of services to GDP makes the sector conducive for mobilisation of greater resources. A technical committee on service tax was set up during the second half of 2000 and has submitted its interim report. Implementation of this report will help in setting up an economically rational service tax that can be integrated at a subsequent stage with the CENVAT. A comprehensive service tax combined with an efficient CENVAT could help in raising indirect tax revenues to the levels that prevailed earlier.
1.116 This will also make it possible to continue with the customs duty rate reductions. Our basic (protective) customs duty rates are still among the highest in the world and there is broad agreement on the need for reducing them to Asian levels. This is essential for pressurising industry and trade to increase efficiency and improve the competitiveness of the Indian economy. The rate reduction, however, must be accompanied by factor market & infrastructure reforms that make it possible for industry in adapting and introducing new technology, improving the productivity of labour, capital and land use and competing in domestic and international markets.
Interest costs
1.117 One reason for the fiscal deficit continuing to be high despite a decline in the primary deficit is the rise in interest costs. One of the key issues in this regard is the system for setting of interest rates on Government debt in the form of provident and pension funds. By their very nature, these rates are set by the Government. The administered interest rates on pension and provident funds must take account of the inflation rates, the effective term of the deposits and available tax exemptions. This will ensure that the after-tax real rate of interest paid on these borrowings reflects the market rates and is consistent with the overall demand and supply conditions in the debt market. The interest rates paid on small savings instruments must be benchmarked against equivalent market instruments.
1.118 The loan and debt market in the country has limited flexibility due to implicit floors on interest rate. This is reflected in the fact that nominal inter-bank call money rate on overnight and one day borrowing has very seldom fallen below 8 per cent. This is despite the fact that in recent years inflation has gone as low as zero for an entire month. Thus, despite the decline in inflation during the past decades, real overnight rates have been very high compared to global rates. Though the high fiscal deficit is a factor for medium to long-term rates, it is difficult to conceive it playing a major role in overnight markets. The market for Government securities and treasury bills also requires to be adequately broadened and deepened. This requires comprehensive decontrol and provision of a level playing field, so that potential retail investors have convenient access to these securities through the stock markets.
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