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Unveiling the new FM’s budget speech

Unveiling the new FM’s budget speech
Union Finance Minister Nirmala Sitharaman (left) with Anurag Thakur, Minister of State for Finance & Corporate Affairs during the halwa ceremony ahead of General Budget 2019
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Above: Union Finance Minister Nirmala Sitharaman (left) with Anurag Thakur, Minister of State for Finance & Corporate Affairs during the halwa ceremony ahead of General Budget 2019

A budget presentation enumerates the things the government plans to do. With the size, reach, and control of government growing, perhaps the budget should also list the things the state won’t do. Union Budgets are a reminder that “most bad government has grown out of too much government.”

By Sanjiv Bhatia

Mr Speaker:

For almost 70 years, Finance Ministers have come to this august body and said: “the government will do this, and the government will do that.” As a result of an ever-increasing involvement, the government has gotten bigger and more expensive to maintain. Running the government machinery today consumes about 20 per cent of the annual budget leaving very little money for things that our citizens need like safety, education, healthcare, sanitation, infrastructure, and justice.

The economy is a complex, dynamic and fast evolving ecosystem with millions of stakeholders. It evolves, adapts, and self-corrects best when it is left to the forces of a free market and the wisdom and self-interest of the millions that interact in this free market. Government efforts to manage and control the economy with fiscal gimmickry invariably end up with disastrous results.

So, today I want to take a different tack. I am going to focus instead on what the government is not going to do and go back to our 2014 campaign promise of “minimum government, maximum governance.”

The government will not engage in any economic activity or area of commerce. Free, unencumbered markets are the engine of economic growth and wealth creation. The government’s role is not of a player but an umpire. Presently, the central government is a major shareholder in about 200 public sector undertakings, and many like Air India and BSNL lose thousands of crores every year. We must follow the PM’s 2014 dictate that “government cannot be in the business or running businesses.”

The government has decided to divest its share in all public sector companies, including public sector banks, and allow them to be run more efficiently by private players. We have appointed a 10-member team of reputed investment banking firms to liquidate the government’s positions in a systematic manner that best captures the value in these firms. Based on professional estimates and current market valuations, the sale of these companies will generate about Rs 20 lakh crores. This money belongs to the people and will become the corpus of a new investment fund, the Bharat Sovereign Fund, which will be managed by a team of investment professionals from the private sector. This fund will be mandated to co-invest with private companies in PPP projects in the following areas: Infrastructure, Education and Training, Research & Development, and Health. It will provide much-needed financing for infrastructure projects and provide the human capital required for India to compete globally.

The only way to remove poverty is by generating wealth through economic growth. Since capital is the lifeblood of an economy, it is vital that we allow unrestricted flow of capital to attract global business and investment and maximize our growth potential.

In this budget, I am announcing the removal of all barriers and regulatory constraints to foreign investment in all sectors except defence. We need to foster a competitive business environment, so the best and most innovative products can be produced in India. I am also going to work with the Reserve Bank of India to remove all restraints on the convertibility of the rupee in the capital account and make it a fully and freely convertible international currency. We now have stable and mature financial markets, and substantial foreign exchange reserves, so the risk of capital flight and related disruptions is small in relation to the potential benefits.

The role of fiscal policy is to shape a landscape that encourages Indian companies to build and grow. Focusing all our attention on unearthing black money at the expense of promoting growth is counterproductive. Tax terrorism by corrupt tax officials using incomprehensible tax rules is counterproductive to business growth, as is evident from the fact that almost 30,000 millionaires have emigrated from India in the last five years—this is an enormous drain of wealth and productive capital from the country.

It is now clear to us that the main reason for black money is a broken tax code. Good tax policy must meet the following objectives:

(a) maximize revenue collection at the lowest possible disruption to the economy

(b) broaden the tax base to avoid the free-rider problem

(c) make tax compliance and administration simple and predictable

(d) make tax policy proportional, so the rich pay more

(e) make it is easy to implement, so compliance costs are minimized

(f) does not unfairly advantage one sector or group over another

The current tax code with over 50 different taxes is a hodgepodge of conflicting rules and regulations and does not meet any of the requirements of a good tax system. It is not broad-based—less than 3 per cent of Indians pay income tax. It is not proportional—the tax burden is borne disproportionately by the middle class. It is not simple—the tax code has thousands of complex and often conflicting regulations. It is not easy to monitor since black money is rampant in the country. Tax collection is not equitable among sectors—agriculture, for example, does not pay any taxes, and hundreds of other distortionary subsidies and exemptions create tax advantages for various industry groups. And it is not easy to implement—the average business spends almost 250 hours a year on filing tax returns, and another 400 hours a year on compliance and audits.

India ranks at the very bottom—172 among 190 countries in the World Bank’s ranking on ‘ease of paying taxes’. Also, among large economies, India has one of the lowest percentages of voters that pay any tax–less than 7 per cent. There is a direct relationship between the ease of paying taxes (simplification) and compliance. To increase compliance and tax collection, we need to simplify tax policy.

Here are some facts about the Indian economy that are unlikely to change anytime soon. A large percentage, about 85 per cent, of employment is in the informal sector which runs primarily on cash. As a result, the payment of “income” taxes remains a voluntary activity. The generation of black money is, therefore, largely an unavoidable consequence of a complicated tax code juxtaposed on an informal economic structure. Any attempt to change this by coercion, or other methods is an exercise in futility. Eventually, the cost of trying to collect every rupee of tax will far exceed the revenue collected.

A new tax code has to be developed that mitigates tax evasion and black money structurally, rather than administratively.

Mr Speaker, I wish to propose a transformational tax policy that will reduce the generation of black money, and more importantly, create powerful incentives that will unleash unprecedented economic productivity and growth. I am proposing that all existing taxes—income tax, corporate tax, capital gains tax, wealth tax, excise tax—every single current tax be scrapped and replaced by a 10 per cent consumption tax which is automatically imputed into the price of all goods and services we consume. All goods and services will pay the same tax rate of 10
per cent with no exemptions. The tax will be structured like the GST—in other words, it will be a value-added tax where the tax burden moves up each stage of the production chain to the final consumer. A business itself will pay no tax. It pays the tax on its purchase of inputs and collects it on its sales, whether those sales are to another business or a final consumer. The company, therefore, acts solely as a collection agent for the government, remitting to the state the difference between the tax it collects from sales and the tax it pays on inputs. This chain cannot be easily broken without detection, so tax avoidance becomes difficult. Additionally, since businesses pay no taxes, there is little incentive for them to cheat, given that the penalties for evasion will be severe.

The tax will, therefore, be “imputed” in the price of all goods and services consumed in the country. Anytime a purchase is made the consumption tax gets paid automatically, so there is little tax evasion or black money. And since everyone in the country must consume goods and services, everyone will pay some tax. This will broaden the tax base and increase revenue collection. Our estimates show that if we eliminate all current taxes and replace it with a simple consumption tax, GDP would increase by at least 3 per cent within two years, and government tax collection by almost 30 percent. Additionally, over 5 million new jobs will be created, and interest rates would drop below 5 percent.

To mitigate the tax burden on low-income families, the government will provide a transfer of 10 per cent of a base income, currently chosen to be Rs 25,000 annually, directly into their accounts as a rebate against taxes paid on the consumption of food and other essential items. In other words, every family classified as below-poverty line will get a direct transfer of Rs 2,500 annually into their bank accounts to compensate for taxes imputed into their consumption. This tax rebate will cost about Rs 80,000 crores.

Based on the nominal 2018 Gross Value Added (GVA) of about Rs 170 lakh crores, a 10 per cent VAT will bring Rs 17 lakh crores in tax revenue in the coming fiscal year, which makes it revenue-neutral with existing direct and in direct tax collection. In the out years, we expect a sharp increase in tax revenues from a rise in consumption in response to increased economic activity and higher disposable income for consumers and businesses.

Mr Speaker, the right of a government to collect tax is conditional on its ability to deliver essential public services. Citizens will be more willing to pay taxes if they feel that the government is adhering to its side of the contract with efficient delivery of essential services.

The government is primarily a service provider, but often the private sector does a better job of providing some services. Going forward, we will ask the following questions: (1) must the government provide these services? And (2) must these services be paid through taxes? If the answer to either question is “No,” then the government will let the private sector provide that service. Exiting many such areas will allow us to focus on those services that protect life, property, liberty and rights.

The government must its energies on its primary roles—to provide for the security of its citizens, to provide public goods and services, to protect the rights of its citizens, to be an impartial adjudicator of disputes, and to provide a legal framework in which voluntary trade is protected.

Protecting the lives and freedom of our citizens from external aggression is the primary role of a government. This requires a trained and well-equipped armed force. For this purpose, I have allocated Rs 5 lakh crores, which is 23 per cent more than last year. Currently, 71 per cent of our defence budget goes towards salaries, pensions, and medical care, which leaves less than 30 per cent to modernize the army. Modern warfare is more about weaponry and less about warriors, so it is vital that we channel additional resources towards weaponry. We aim to cut down the size of the army to half by the year 2030 and build a smaller, more lethal, deployable and agile force using sophisticated weaponry and intelligent systems like drones and robots to replace personnel where feasible.

We also need to protect our citizens from the internal threats of crime, rape, embezzlement, fraud, harassment, and violation of fundamental rights. This will require massive investment in (a) a well-trained and modern police force and (b) an independent, effective, and just legal system.

Mr Speaker, I have allocated Rs 1 lakh crores to attract the best and brightest of our youth and to build the world’s best trained and most sophisticated police force. I am also allocating Rs 50,000 crores to build a vast network of District, Circuit, Consumer, and High courts, and for the training and hiring of judges. It is imperative that we create a legal system that treats everyone equally and hands out fair and speedy justice. Speedy enforcement of contracts is vital for business growth. We must ensure that all contractual disputes are settled within ninety days. I have allocated Rs 50,000 for the creation of courts that will decide only matters related to contractual disputes.

The state is in a much better position to marshal resources that provide essential services that all citizens consume, like, public infrastructure, uninterrupted electric and water supply, a clean environment which includes clean air and water, sanitation, and cultural and sports facilities to augment the quality of life. This year’s allocation to this, apart from any benefit that may accrue from the sale of public companies, will be Rs 2 lakh crores.

The government’s role is to promote the general welfare of our citizens and not to have a welfare state. We do this by creating equal justice for all, protecting life and property, increasing quality of life, reducing air and water pollution, providing efficient and reliable public services, etc.

However, we can all also agree that all our citizens should be guaranteed some basic level of subsistence. That is the right to citizenship, and our government understands that. We also understand that to alleviate poverty; we require programs explicitly directed at helping the poor. In other words, we need to help a poor man who also happens to be a Dalit or a farmer, not because he is a Dalit or a farmer but because he is poor. All poverty alleviation programs should be designed to help people as people, not as members of particular occupational groups or castes.

Unfortunately, welfare spending in India suffers from significant inefficiencies: exclusion of the poor, leakages from the system, misallocation of resources across districts and benefits to non-poor. Estimates by the Ministry of Finance show that in just the two large subsidy programs, PDS and MNREGA, as much as 40 per cent and 65 per cent of the funds respectively did not get to the people who most needed it. There are currently about 950 centrally sponsored schemes in India, accounting for about 5.2 percent of the GDP by budget allocation. If the average misallocation is even 30 per cent, then the waste amounts to almost Rs 2.1 lakh crores.

Mr Speaker, this path is unsustainable. It is time to change the current welfare and subsidy system to allow people to choose and be responsible for the execution and consequences of those choices. I am appointing an expert committee to study and recommend a Universal Basic Income (UBI) scheme to guarantee every low-income person a minimum subsistence income.

The UBI will replace all existing welfare and subsidy schemes and the money saved by eliminating waste and leakages from the system will be used to train the poor for jobs in the new economy, and to provide high-quality education and improved health benefits.

Mr Speaker, India is at a critical juncture. Our demographic dividend will peak out in the next eight years. We need to move urgently to capitalize on this opportunity. We have a young, dynamic entrepreneurial workforce that can be unleashed to create wealth for all citizens. But they have been held back by an ocean of regulations that stifle development, competition, and risk taking. This regulatory capture of business and citizen lives needs to change. As the old saying goes, “The greater the number of laws and regulations, the more thieves and robbers there will be.”

I am, therefore, asking all government agencies to reduce regulations in their respective departments by at least 50 percent by next year. Additionally, for any new rule to be put on the books, three old regulations must be scrapped. In a free market economy with voluntary exchange, the primary role of the government is to set the rules of the game in a manner that does not advantage one group over another. The government can and must ensure equality of opportunity–it cannot and should not guarantee equality of outcome. All regulations must focus on meeting the twin objectives of citizen protection, and ensuring equality of rights and opportunity. The government needs to get out of the habit of trying to control the behaviour of a few by imposing meaningless regulations on everyone else. Regulations are administratively expensive to enforce, and a source of restriction for the many people who don’t violate them.

The role of the government is to protect its citizens and not to run their lives. It cannot regulate personal morality, but we must demand compliance with laws that respect life, property, and rights. Reducing the role of government in commerce and reducing regulatory burdenswill significantly reduce the power of government to coerce and with that a significant reduction in corruption. We acknowledge that corruption occurs primarily in transactions involving the government, and so the only sure way to reduce corruption is to have free, unfettered markets and bare minimum regulations. When the government machinery is reduced in size and stripped of its power to regulate, it is also stripped of its power to extract money.

Mr Speaker, this budget will transform India. The government will mutate from running companies to focusing on being an efficient provider of public services. A simple and efficient tax code based on consumption will structurally eliminate tax evasion. By dramatically altering our armed forces, police, and judiciary, we will protect our citizens and their rights. By investing jointly with the private sector in world-class infrastructure and by freeing the movement of capital, we will put India on the path of becoming a global economic power. And by reforming welfare and subsidy delivery and ensuring a minimum wage, we will remove poverty.

—The writer is a financial economist and founder,

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  1. India could change if we change the most corrupt insitution in the country–the government. It is too big, too powerful, too incompetent, too expensive to maintain, and too corrupt. As a result the private sector, which produces 75% of the GDP is getting “crowded out”. States like Bihar and UP are good examples of big, useless and corrupt governments. Very nice article. Very deep in its analysis.

  2. I wish this were true. Excellent article. India’s biggest problem—too much government. There is almost nothing you can do in India wihout running into the government. That is holding the country back by increasing corruption and sucking up precious production resources that could otherwise be deployed more productively in the private sector.

  3. Well written. A smaller govt focused on fewer priorities will provide the economic freedom for India to grow into a 5 trillion economy. Otherwise all that talk is just blather.

  4. Brilliant.. What a wonderful article. Enjoyed the author’s way if describing the true role of govt with such clarity.

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