Issues and priorities

1.85 More effective management of public finances continues to be the central challenge facing all levels of government in India. In some ways the challenge has become more daunting in recent years pursuant to the sharp increase in government wage bills resulting from the Fifth Pay Commission. The gross fiscal deficit of the Centre and State Governments together, which reflects the net borrowing requirements of government, had declined from 9.2% of GDP in 1991 to 6.2% in 1996-97. In recent years it has climbed back up to 8.5% in 1998-99 (RE) and is expected to rise further in the present year. The adverse effects of large fiscal and revenue deficits on virtually every important dimension of macro-economic performance are well known. They range from low savings and investment, high real interest rates and reduced growth, to adverse pressure on inflation, financial markets and the external sector. Furthermore, the continuous series of large deficits lead to inexorably mounting interest payments, leaving a declining share of government expenditure available for essential functions such as defence, law and order, social services and public investment in infrastructure. The recently published estimates of a significant decline in domestic savings and investment in 1998-99 is primarily traceable to burgeoning revenue deficits of Central and State Governments. Similarly, the high level of real interest rates prevailing in recent times is largely due to high fiscal deficits.

1.86 Quite clearly, the prospects for accelerating economic growth depend crucially on the success in managing the fiscal challenge confronting the economy. Equally clearly, as long experience has shown, the challenge can only be surmounted through hard decisions on many fronts. While the specific issues and remedies differ between Central and State Governments and across State Governments, there are several common themes for an effective strategy. They include: a redefinition and narrowing of government responsibilities to those functions that only government can discharge effectively, with a view to down-sizing government; systematic efforts to reduce subsidies by targetting them to the poorest segments of society; a vigorous drive to divest commercial undertakings such as power utilities and transport undertakings; a concerted programme to deploy user charges for economic services rendered by government; systematic induction of information technology tools and modern management practices to enhance efficiency of governance; resource generation through transparent sale of under-utilised public properties such as land; and, above all, a determined political commitment to truly effective expenditure management.

1.87 Many of our administrative practices and methods have not changed since colonial times. We need to introduce urgently modern management practices in departments which provide well-defined services such as Posts or have well defined objectives like tax collection. The social and economic returns to public investment and expenditure can be greatly enhanced through wider application of techniques like programme evaluation and review technique (PERT) and critical path method (CPM), which became common in developed countries several decades ago but remain under-utilised in our public sector. The availability of relatively economical information technology tools provides new opportunities to reap gains from public expenditure through application of modern management information systems and practices.

1.88 A medium-term programme of fiscal consolidation will also entail systematic efforts to reverse recent declines in the ratio of tax revenues to GDP. There has been considerable progress with tax reform at the Central Government level in the 1990s. Recent agreements by States to harmonise their sales tax systems and move towards VAT in a time bound manner also augur well. However, tax reform cannot and should not be synonymous with reductions in tax to GDP ratios. Sound tax reforms entail effective broadening of the tax base at all levels of government, including through checking evasion and avoidance.

1.89 Several countries have experimented with fiscal responsibility legislation as an instrumentality to assist fiscal consolidation. We should also consider this option.

1.90 Successful management of public finances is closely linked to institutional reforms necessary to nurture modern economic growth. Effective functioning of the market economy requires legal and administrative structures which ensure the basics of law and order and provide for effective implementation of economic laws, such as law of contract, which encourage growth of the market economy and the creation of income and wealth. Many people feel that our legal system is creaking, if not collapsing, under the burden of too many laws and too little enforcement. Experts have identified several economic laws as redundant. A start should be made by abolishing these redundant laws. A major effort is also necessary to modernise, integrate and simplify the rest of the laws, regulations and associated rules which govern and influence economic transactions.

1.91 The delays in our legal system are also legendary. In many economic cases decades pass before final resolution, with enormous loss of time, effort and resources. Observers have noted that government or government agencies are often part of the problem of delays in our legal system. A National Law School study estimated that government was plaintiff, defendant, appellant or respondent to appeals in 60 per cent of all the suits filed. Most government cases were in five areas of taxation, credit, rent control, urban land ceiling and labour relations. Clearly, repeal or reform of laws and regulations in these areas could help greatly.

1.92 Laws and institutions constitute the "software" of the state and society. Their reform and effective operation will be crucially important for successful economic performance in the new millennium.

1.93 The restoration of fiscal health, especially of State Governments, is also a critical pre-requisite for more effective implementation of policies and programmes for primary education, public health care, other social services, rural infrastructure and programmes for alleviation of poverty and employment creation. The main operational responsibility for implementing these programmes lies with State Governments. At present, several State Governments are struggling to find resources to meet their wage bills and have little left over for economic and social development. The fiscal strategy outlined earlier is essential for the reduction of deficits and, debt service burdens and the release of resources for commitment to areas which really matter for social and economic uplift. After more than 50 years of independence our achievements in regard to life expectancy, literacy, health, and poverty alleviation compare unfavourably with many other developing countries. The record is very uneven across States. Furthermore, there are disquieting trends in regional disparities with respect to overall economic development, which need to be addressed by a combination of Central Government policies and more determined efforts by lagging States to avail of opportunities for faster development. Effective public programmes implemented through local participation and accountability must become the norm for future progress.

1.94 Faster social development and reduction of regional disparities is also predicated on more rapid, sustainable and broad-based economic growth, especially in rural areas. State and local governments must accord high priority to rural infrastructure, including minor irrigation, soil conservation and rural roads. The massive subsidies presently sunk in state road transport undertakings should be released for improving the network of State highways and rural feeder roads. The goal must be to connect every village to the State highway system through all weather roads.

1.95 Similarly, effective public programmes for irrigation, agricultural research and rural credit are an essential ingredient for more rapid growth of agriculture and allied activities. But existing policies must also be reformed to encourage more private investment and participation in many of these areas, including irrigation, storage and transportation. For example, both experience and studies suggest that greater reliance on water user associations can bring about substantial improvement in the efficiency and quality of supply of irrigation water. Furthermore, they could facilitate a faster increase in water charges to economic levels, if such associations have greater responsibility for collection of user charges and maintenance of irrigation distribution networks.

1.96 More rapid development of agriculture also requires continued reform of policies for agricultural trade, pricing and marketing. Removal of remaining controls on agricultural exports should accompany the removal of import controls already announced over the next 15 months so that farmers can benefit from integration with world markets. Forward markets should be encouraged in all agricultural commodities whenever regulatory requirements are met. The plethora of State level laws, regulations and rules, which constrain private investment and participation in agricultural marketing, storage and transportation need urgent review.

1.97 Infrastructure, including power, roads, ports, telecommunications and civil aviation, continues to be a serious constraint on the country’s economic growth potential. Recent years have witnessed substantial progress from the old paradigm of public monopoly provision of infrastructure services to the new paradigm which also encourages private investment and provision of infrastructure services within a stable, predictable and commercially viable regulatory framework. But we still have a long way to go. The unsustainable under pricing of electric power has to be phased out sooner rather than later. The reform of the State Electricity Boards must be accelerated. No amount of guarantees and counter-guarantees can substitute for the systematic application of commercial principles in the generation, transmission and distribution of power. While regulatory authorities have been established in most infrastructure sectors, their ambit and independence often need to be strengthened. The key objective of a modern regulatory system should be to promote competition to the greatest extent possible and to regulate the "natural monopoly" elements where competition is not feasible. Where "natural monopoly" elements exist (such as local distribution networks for electricity and telecommunications, roads, rail lines and canals), the goal must be to assure non-discriminatory access to service providers and cost-based pricing. For the rest, the regulator should promote competition by freeing entry and exit and eliminate artificial barriers between different types of services.

1.98 The Information Technology (IT) revolution sweeping across the world provides tremendous opportunities for India, especially in view of the proven successes of many of our IT entrepreneurs and specialists. But our early lead in this area will not last if we do not move swiftly to banish existing bottlenecks to further growth and development of this sector. This includes rapid progress in telecommunications (without which the information technology revolution will remain confined to a few pockets in the country), strong encouragement of venture capital finance and a liberal policy approach to laws and regulations for electronic commerce.

1.99 The early success of our IT industry owes a great deal to the relative absence of government controls and the availability of highly skilled manpower. If this success has to be extended to other knowledge-based industries, such as pharmaceuticals and biotechnology, we must work to remove pricing, financial and administrative controls and bottlenecks in these sectors and encourage generation of educated manpower.

1.100 Given the severe fiscal constraints on the government, private entry into higher education will be critical to ensure that supply keeps pace with demand. Dedicated, high quality, long-term private investment in higher education and skill generation will only occur if there is rational and stable policy framework in place. Excessive controls and interference in private education institutions could encourage fly-by-night operators. There is an urgent need for developing a modern regulatory framework which focusses on development of standards and certification procedures, generates and disseminates information about quality of various higher education institutions and provides for independent rating and testing agencies. Other elements of this framework would include scholarships, student loans and tax incentives within a basic context of economic pricing of higher education services. Sustained growth of knowledge-based industries requires an expanding base of economically viable, quality education.

1.101 To sustain the on-going recovery in industry we must also look beyond the knowledge-based industries. The financial sector, especially banking, needs to be strengthened. Difficult decisions have to be taken in respect of problems of weak banks, structural rigidities of the banking system and continued problems with non-performing assets. The East Asian crisis has taught the world that there is no viable alternative to a strong domestic financial sector. Industrial dynamism also needs good industrial relations and flexible labour markets. Our laws in this area need urgent review and revision to promote greater employment in organised industry. Our small-scale industries have contributed greatly to the growth of our economy, employment and exports. But to meet the challenges of the future some of the existing policies need to be reframed to emphasize positive promotional programmes of credit supply, technological improvement and marketing assistance, while phasing out inefficient protectionist policies.

1.102 Since the crisis of 1991 there has been substantial and sustained reform in India’s external economic policies relating to foreign trade, investment, external debt and currency convertibility. We have reaped the rewards of such progress in the form of higher exports of goods and services (including software), higher foreign investment, greater inflows of technology, much lower exposure to foreign debt and the absence of currency crises and balance of payments difficulties. The relative ease with which our external sector has absorbed the doubling of our oil import bill this year testifies to the strength and resilience of this sector and our strategy of calibrated integration with world trade and financial markets. Confronted by the continuing challenges of globalisation the central lesson of the nineties is to persevere with the thrust of our economic reforms. This includes continued liberalisation of our foreign trade, reduction of customs tariffs, clear and decisive policies to encourage foreign direct investment, continued prudence on external debt, carefully calibrated expansion of convertibility on capital account and continued reliance on a market-determined exchange rate policy.

1.103 At the dawn of the new millennium, the world around us is changing fast. To sustain and accelerate the growth of our economy and employment, while ensuring low inflation, our economic policies must combine fiscal discipline with rapid economic reforms wherever necessary.