Do we need a fiscal council?
Paper: III
Mains : General Studies Paper III, Indian Economy and issues relating to planning, mobilization, of resources, growth, development and employment. Inclusive growth and issues arising from it.
Context:
The government needs to borrow and spend more now in order to support vulnerable households and engineer economic recovery. But that will mean a steep rise in debt which will jeopardise medium-term growth prospects, an issue prominently flagged by all the rating agencies in their recent evaluations. It is possibly the fear of market penalties that is holding the government back from opening the money spigots.
The government can signal its virtue by establishing some new institutional mechanism for enforcing fiscal discipline, such as for example a fiscal council.
Key points:
- Many economists have faulted the government’s fiscal stance, arguing that this is no time for restraint; the government should spend more to stimulate the economy by borrowing as may be necessary, but at the same time come out with a credible plan for fiscal consolidation post-COVID-19 in order to retain market confidence. But will the market be persuaded by the government’s assurance of future good conduct?
Suggestion of a fiscal council:
- The suggestion of a fiscal council actually predates the current crisis. It was first recommended by the Thirteenth Finance Commission and was subsequently endorsed by the Fourteenth Finance Commission and then by the FRBM (Fiscal Responsibility and Budget Management) Review Committee headed by N.K. Singh.
- In India, two expert committees have advocated the institution of such a council in recent years. In 2017, the N.K. Singh committee on the review of fiscal rules set up by the finance ministry suggested the creation of an independent fiscal council that would provide forecasts and advise the government on whether conditions exist for deviation from the mandated fiscal rules.
- In 2018, the D.K. Srivastava committee on fiscal statistics established by the National Statistical Commission (NSC) also suggested the establishment of a fiscal council that could co-ordinate with all levels of government to provide harmonized fiscal statistics across governmental levels and provide an annual assessment of overall public sector borrowing requirements.
- These recommendations follow similar recommendations from the 13th and 14th finance commissions, which also advocated the establishment of independent fiscal agencies to review the government’s adherence to fiscal rules, and to provide independent assessments of budget proposals.
- Given the growing demand for accurate and transparent fiscal statistics, the incoming government would do well to establish such a council, so that budget numbers meet with less scepticism than they do today
Present in 50 countries
- According to the International Monetary Fund (IMF), about 50 countries around the world have established fiscal councils with varying degrees of success.
- Abstracting from country-level differences, a fiscal council, at its core, is a permanent agency with a mandate to independently assess the government’s fiscal plans and projections against parameters of macroeconomic sustainability, and put out its findings in the public domain.
- The expectation is that such an open scrutiny will keep the government on the straight and narrow path of fiscal virtue and hold it to account for any default.
Do we really need a fiscal council?
- Sure, we do have a chronic problem of fiscal irresponsibility, but is a fiscal council the answer? Recall that back in 2003 when FRBM was enshrined into law, we thought of that as the magic cure for our fiscal ills.
- The FRBM enjoins the government to conform to pre-set fiscal targets, and in the event of failure to do so, to explain the reasons for deviation. The government is also required to submit to Parliament a ‘Fiscal Policy Strategy Statement’ (FPSS) to demonstrate the credibility of its fiscal stance. Yet, seldom have we heard an in-depth discussion in Parliament on the government’s fiscal stance; in fact the submission of the FPSS often passes off without even much notice.
- If the problem clearly is lack of demand for accountability, how will another instrumentality such as a fiscal council for supply of accountability be a solution? It can be argued that a fiscal council will in fact be a solution because it will give an independent and expert assessment of the government’s fiscal stance, and thereby aid an informed debate in Parliament. A fair point, but do we need an elaborate permanent body with an extensive mandate for this task?
The council’s mandate
- Consider for example the model suggested by the FRBM Review Committee. As per that, the fiscal council’s mandate will include, but not be restricted to, making multi-year fiscal projections, preparing fiscal sustainability analysis, providing an independent assessment of the Central government’s fiscal performance and compliance with fiscal rules, recommending suitable changes to fiscal strategy to ensure consistency of the annual financial statement and taking steps to improve quality of fiscal data, producing an annual fiscal strategy report which will be released publicly.
- An institutional behemoth with such a wide job chart will likely add more to the noise than to the signal. For example, the fiscal council will give macroeconomic forecasts which the Finance Ministry is expected to use for the budget, and if the Ministry decides to differ from those estimates, it is required to explain
why it has differed?
- As of now, both the Central Statistics Office (CSO) and the Reserve Bank of India (RBI) give forecasts of growth and other macroeconomic variables, as do a host of public, private and international agencies.
- Why should there be a presumption that the fiscal council’s forecasts are any more credible or robust than others?
- Why not leave it to the Finance Ministry to do its homework and defend its numbers rather than forcing it to privilege the estimates of one specific agency?
- Besides, forcing the Finance Ministry to use someone else’s estimates will dilute its accountability. If the estimates go awry, it will simply shift the blame to the fiscal council.
Delayed payments:
- The 14th Finance Commission report was accepted in 2015 with the promise that it would devolve more finances to the States. As part of the process, States would have new responsibilities, especially in the social sector. Two years later, the introduction of the Goods and Services Tax (GST) regime was also justified as a grand bargain that would eventually leave all States better off.
- In reality, tax devolution to States has been consistently below 14th Finance Commission projections. One reason for this has been the economic slowdown, caused primarily by the Central government, and lower-than-expected GST collections.
- The shortfall in GST collection for 2018-2019 was 22% when compared to projections. Payments have been delayed as well. For example, Centre owed States about ₹35,000 crore as GST compensation for December 2019 and January 2020, which was only paid in June 2020 after a delay of more than five months.
- According to a study by the Centre for Policy Research, there is a ₹6.84 lakh crore gap between what the 14th Finance Commission promised to States and what they have received. And while this has happened, the nature of public spending in India has undergone a massive shift.
- In 2014-2015, States undertook programmes and projects spending 46% more than the Central Government; today the figure is 64%. Despite this, the Centre’s fiscal deficit exceeds the consolidated State deficit by 14%! India is paying for a profligate Centre.
FRBM provisions
- As they put more money into people’s hands, governments across the world are struggling to meet fiscal deficit targets this year.
- In India, even States that have maintained fiscal discipline in recent times have had to cope with needs of suffering citizens and spend more under essential, social sector heads. The fiscal deficit for States, collectively, is inevitably going to breach the projection of 2.04%.
- As per provisions of the Fiscal Responsibility and Budget Management (FRBM) Act, the Gross State Domestic Product (GSDP) can actually accommodate a fiscal deficit of 3%.
- The States have respected the limit for years and the projection for 2020-21 reflected this. Now, post-pandemic, this limit will be crossed.
- The FRBM has an “escape clause” that allows for a one-time relaxation of the fiscal deficit threshold upto 0.5% in a time of exigency. The escape clause has been utilised by the Centre but it has proven woefully insufficient in addressing the current crisis.
- Fiscal policymakers and technocrats agree that the rigidity of the FRBM has to be revisited. It should allow for greater flexibility and consultation as to when and how the “escape clause” can be applied.
- This goes beyond the current COVID-19 situation, but has come to light because of it — and because the Centre has gone in for subjective interpretation, imposing conditions that are outside the scope of the FRBM.
Way forward:
- Let us, despite my arguments above, grant that a fiscal council will indeed add value. Then the way forward is to start small and scale it up if it proves to be a positive experience. I would suggest the following low cost and reversible start-up.
- It will prevent the government from gaming the fiscal rules through creative accounting. But there is already an institutional mechanism by way of the Comptroller and Auditor General (CAG) audit to check that. If that mechanism has lost its teeth, then fix that rather than create another costly bureaucratic structure.