Opinion: Budget should put money in the hands of poor, not call for capital expenditure

With unprecedented levels of unemployment, low output and aggregate demand, the Indian economy is already in the ICU. And the FY 22-23 Budget had nothing to propel growth in the short term, writes the author.
FM Nirmala Sitharaman
FM Nirmala Sitharaman

The Union Budget 2022-2023, presented by the Finance Minister of India, Nirmala Sitharaman, brings to mind what the great economist John Maynard Keynes wrote in 1923: ‘We are all dead in the long run’. He was referring to the debate in Great Britain on restoring the pre-First World War fixed exchange rate system, known as the gold standard. He implied that efforts have to propel growth in the short term and this still holds true. While long-term vision is good, the first priority is to take care of the immediate needs of the people. This was missing in the Budget.

With unprecedented levels of unemployment, low output and aggregate demand, the Indian economy is already in the ICU. And, surprisingly, the Budget had nothing to propel growth or increase aggregate demand in the short term, at a time when the poor are struggling to put food on their plates. Data from the International Labor Organization (ILO) suggests that India’s employment to population (over the age of 15) ratio has steadily reduced from 55% in 2005 to 43% in 2021. In 2020, it was 51% in Bangladesh, 62% in China and 73% in Vietnam. Specifically, women form just 19% of India’s labor workforce, while they comprise between 30% and 70% of the workforce in the other three countries.

Another data source suggests that across manufacturing and services, India lost about 1 crore jobs between 2016 and 2021. Like how an ailing patient in ICU needs immediate attention, so does an ailing economy. The factories are already operating with just 70% occupancy and corporates are hoarding excess profits as deposits.

A major sign of an industrial slowdown, is the fall in two-wheeler sales. As per news reports, it fell to 11.77 million units in 2021, below 11.90 million units sold in 2014. Moreover, the annual industrial growth rate has also greatly reduced from 13.1% in 2015-­16 to -7.2% in 2020-21 due to lack of demand, exacerbated by COVID. 

So supply-side interventions, such as reducing the GST surcharge for corporate companies from 12% to 5% do not help whatsoever. In fact, over the past several Union Budgets, the government has been wrongly undertaking efforts to boost productive capabilities. When aggregate demand is low, no amount of effort to boost the economy through supply-side interventions will help. Therefore, the two most important priorities for the government should have been to put money in the hands of the poor and to solve India’s chronic unemployment problem.

There is a well-known concept in economics on how transferring income to the poor, who are likely to spend the additional income to buy goods and services, offers the best chance for reversing the economic slowdown. When you offer Rs 100 to a person who is poor, thanks to the multiplier effect, he is likely to spend it quickly on the basic necessities and this, in turn, has a 2 to 4x impact on the economy. Reforms that can spur growth in the short term are conspicuously absent in the Budget.

One of the best ways to put money in the hands of the poor and to mitigate the unemployment crisis, to an extent, would be to augment the MGNREGA scheme. However, when demand for work is at a record high, the government inflicted the worst possible harm by reducing the MGNREGA budget to the tune of Rs 25,000 crore.

Reliance on indirect taxes

The present government, sometime between 2017-2019, reduced corporate taxes to about 23% – one of the largest reductions in the past three decades. Even such a reduction has not resulted in additional investment from the corporate sector due to lack of aggregate demand, among other reasons. This reduction in corporate tax, therefore, has cost the nation somewhere between Rs 2-6 lakh crore according to estimates, forcing the government to depend on indirect taxes such as GST on fuel.

This has led Indians, on average, to spend 17% of their income on fuel, by far the highest in the world. Citizens of countries such as China and the US spend on an average 2% and 0.5% of their income on fuel, respectively. Such dependence on indirect taxes does not bode well for a country that is fighting huge inequality. Indirect taxes are anti-poor. If reduction of corporate taxes makes the corporates richer, reliance on indirect taxes makes the poor poorer. For example, in proportion to total tax collected, the share of indirect taxes has increased by up to 50% of the gross tax revenue in FY19, as opposed to 43% in FY11. The total share of VAT/ Customs has reached an all-time high of 10.5% of the GDP.

All this has contributed to worrying levels of inequality.

Unsustainable levels of inequality

There has also been a rise in inequality due to lowering demand. The World Inequality report released in 2022, finds India as one of the most unequal countries when it comes to income and wealth. The top 10% of the Indian population holds 77% of the total national wealth, in fact, 73% of the wealth generated in 2017 went to the richest 1%. Most academic studies point to the rise in inequality and the Gini coefficient (a single number that demonstrates a degree of inequality in the distribution of income/wealth) as a hindrance to economic growth. 

An Organization for Economic Co-operation and Development (OECD) study published in 2014, highlighted that high inequality can impede economic growth by as much as 10% of the total GDP. When inequality increases, it transfers income from low-income households – which have virtually zero savings – to high-income households – with high levels of savings. When income moves in this direction, demand naturally falls. This is more pronounced in an economy like India where companies are focused mostly on wealth transfer than wealth creation. 

Capital Expenditure – only good on paper

This year’s Budget has allocated Rs 7.5 trillion to capital expenditure. This might look good on paper but isn’t as attractive for the economy as portrayed. This allocation is 35.4% higher than the previous year’s figure of Rs 5.5 trillion. It works out to be 19.02% of the total expenditure of Rs 39.45 trillion. This diversion of funds for capital expenditure (capex), out of limited resources, has been done by slashing food subsidies, reducing petroleum subsidies, and cutting other welfare expenditures like MGNREGA. Allocation towards healthcare has been a huge casualty as well.

In theory, capital expenditure, as per Keynesian economics, can propel the economy, by crowding-in the private expenditure. The crowding-in effect is observed when there is an increase in private investment due to increased public investment. For example, through the construction or improvement of physical infrastructures such as roads, highways, water and sanitation, ports, airports, railways, etc. But, the positive effect on the economy due to an increase in capital expenditure is not immediate and takes some years to reflect. Plus, India suffers from inordinate delays in the completion of infrastructure projects, mainly due to regulatory impediments such as land acquisition.

This is seen in railways and highways in particular, which contribute to about 32% of capital expenditure. Therefore, the multiplier effect of this capex spending in the economy is much lower than what it would have otherwise been by putting money in the hands of the poor.

As per a study, India’s chronic unemployment crisis resulted in a decline (of 3% points of GDP) in private consumption. The assumed demand for labour from an infrastructure boost may be minimal, as the suggested projects in telecommunication and defence, for example, which contribute to about 30% of capital expenditure, are machinery intensive and not labour intensive. Therefore, the Budget does not directly address the employment crisis existing since 2015, which has now been exacerbated by the novel coronavirus pandemic and the lockdowns.

Lack of focus on human capital

Investment in human resources is important for any nation to progress (we rank 131 out of 189 countries in the Human Development Index). Capital, along with human resources, and innovation are necessary for the sustained growth of any country. But our education and health care expenditures continue, in terms of GDP, to be very low in comparison to other developed countries (for example: we spend 1.2% of our GDP towards health care, compare that with 8% that the EU spends). India is the only country in the world to have reduced its health budget during a pandemic. This Budget, ignoring the increasing rates of women/ child mortality, has done little to improve India’s abysmal health care.

Shockingly, the government chose not to increase the % of money allocated to health care in real terms of GDP, though the budget of the Department of Health and Family Welfare at Rs 83,000 crore has gone up by 15.72% over budget estimates for 2021-­22 and by less than Rs 100 crore compared to the revised estimates for 2021-­22, which is Rs 82,900 cr. Strangely, water and sanitation has been included in the budget expenditure for health.

Moreover, after the pandemic, a major focus of the Budget should have been towards sending more students back to schools. Loss of physical classes has already increased the existing gaps. Therefore, efforts should be made to improve school infrastructure, student/teacher ratio, etc. However, the only initiative in school education was to promote more e-learning via classes on TV.  All research points to the fact that profound development in a person happens in their childhood – between ages 1 to 8, but mysteriously the government has reduced the subsidy allocated to children. 

The government has done nothing to solve the chronic fundamental issues that plague the economy. This, even with five important state elections around the corner. So, it wouldn't be a stretch to conclude that this government believes, as JNU professor CP Chandrasekhar said, that a polarising agenda is adequate to neutralise the effect of popular demand.

Views expressed are the author’s own.

Salem Dharanidharan is an alumnus of the University of Oxford and Paris Institute of Political Studies (Sciences Po, Paris). He is an executive coordinator at Dravidian Professionals Forum and co-founder of Oxford Policy Advisory Group.

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