Fiscal responsibility budget management act

FISCAL RESPONSIBILITY BUDGET MANAGEMENT
ACT, 2003

Roshankumar S Pimpalkar

roshankumar.2007@rediffmail.com

The FRBM Act was enacted by Parliament in 2003 to bring in fiscal discipline,
reduce the country’s fiscal deficit, and improve macroeconomic management and the
overall management of the public funds by moving towards a balanced budget. The
United Progressive Alliance (UPA) government had notified the FRBM Rules in July
2004. The FRBM Rules impose limits on fiscal and revenue deficit. Hence, it will be
the duty of the Union government to stick to the deficit targets. The main purpose
was to eliminate revenue deficit of the country (building revenue surplus thereafter)
and bring down the fiscal deficit to a manageable 3% of the GDP by March 2008.
However, due to the 2007 international financial crisis, the deadlines for the
implementation of the targets in the act was initially postponed and subsequently
suspended in 2009. Basically FRBM Act was introduced because the debt burden on
country’s economy was increasing and the interest payments were alone consuming
50% of government revenue.

The Fiscal Responsibility and Budget Management Bill (FRBM Bill) was introduced
in India by the then Finance Minister of India, Mr.Yashwant Sinha in December,
2000. The bill highlighted the poor state of the Government finances at Union as well
as state level. The FRBM bill was introduced with the broad objectives of eliminating
revenue deficit by 31 Mar 2006, prohibiting government borrowings from the Reserve
Bank of India three years after enactment of the bill, and reducing the fiscal deficit to
2% of GDP (also by 31st Mar 2006). Further, the bill proposed for the government to
reduce liabilities to 50% of the estimated GDP by year 2011.

Now it is very clear that neither of the targets have been met. One of the major
reasons for this was that the Finance ministry was only required to conduct the
quarterly review of the receipts and payments of the Government and place these
reports before the parliament. Any deviations from the targets were approved by the
parliament apart from this there was no other measure to ensure the compliance of
the act. Although the government was able to cut the fiscal deficit to 2.7% of GDP
and revenue deficit to 1.1% of GDP in 2007–08, the International financial crisis of
2008 forced the government to suspend the deadline for implementation of targets.
The fiscal deficit rose to 6.2% of GDP in 2008-09 against the target of 3% set by the
Act for 2008-09. Now the government had announced a path of fiscal consolidation
starting from fiscal deficit of 6.6% of GDP in 2009-10 to a target of 3.0% by 2014-15.

Many economists, including Lord Keynes, had advocated the need for small fiscal
deficits to boost an economy, especially in times of crisis. What it means is that
government should raise public investment by investing borrowed funds. This
exercise is also called pump-priming. The basic purpose of the whole exercise is to
accelerate the growth of an economy by public intervention. Hence, there is nothing
fundamentally wrong with a fiscal deficit, provided the cost of intervention does not
exceed the emanating benefits. The darker side of the story is that the borrowed
funds, which always remain on tap, have to be repaid. And pending repayment,
these loans have to be serviced. Ideally, the return on investment from the projects,


in which the borrowed money was invested, should be higher than the cost of
borrowing. In that situation, fiscal deficit will not pose any problem. However, the
government spends money on all kinds of projects, including social sector schemes,
where it is impossible to calculate the rate of return at least in monetary terms. So,
one will never know whether the borrowed funds are being invested wisely. Apart
from that the government has now reached to the stage where the borrowed money
is used to service the past loan. According to budget figures (revised estimates for
2003-04) the government borrowed Rs 1, 32,103 crore. The interest payment during
the year was Rs 1, 24,555 crore i.e. around 94% of the borrowed funds are being
used to pay interest for past loans. This is what is called the debt trap, where one is
compelled to borrow to service past loans.

The FRBM Act initially introduced four fiscal indicators to be projected in the medium
term fiscal policy statement. These are revenue deficit as a percentage of GDP,
fiscal deficit as a percentage of GDP, tax revenue as percentage of GDP and total
outstanding liabilities as percentage of GDP. The Finance Bill 2012 gave legal
recognition to a new concept called Effective revenue deficit which is defined as the
difference between revenue deficit and grants for creation of capital assets. Revenue
Deficit is defined in the act as the difference between the revenue expenditure and
revenue receipts which indicates increase in liabilities of the Central Government
without corresponding increase in assets. The recent amendment in FRBM act has
mandated total elimination of effective revenue deficit by 2015.

In a federal set up like India, large amount of transfer of resources from the Central
Government takes place to States, local bodies and other scheme implementing
agencies that are mandated to provide certain services. All of such transfers are
shown as revenue/current expenditure in the books of Central Government.
However, significant proportion of such transfers is specifically meant for creation of
capital assets which are public goods in nature. In the present scheme of things,
most of the public goods are being provided by States and sector specific bodies.
Central Government’s role is limited to augmenting or providing resources to these
institutions as it can’t create these infrastructures directly (e.g. State or rural roads;
irrigation infrastructure; power generation, transmission and distribution facilities;
telecommunication networks, major ports or airports etc.). Since the Central
Government does not own these assets, the resources transferred even for creation
of physical infrastructure are shown as revenue expenditure. So there is fault in the
accounting system. Needless to say that the Indian Government does not have
proper accounting system, this is also one of the major concerns.

Since the act was primarily for the management of the governments' behaviour, it
provided for certain documents to be tabled in the Parliament annually with regards
to the country's fiscal policy. This included the following along with the Annual
Financial Statement and demands for grants:


o A document titled Medium-term Fiscal Policy Statement – This report was to
present a three-year rolling target for the fiscal indicators with any
assumptions, if applicable. This statement was to further include an
assessment of sustainability with regards to revenue deficit and the use of
capital receipts of the Government (including market borrowings) for
generating productive assets.
o A document titled Fiscal Policy Strategy Statement – This was a tactical report
enumerating strategies and policies for the upcoming Financial Year including
strategic fiscal priorities, taxation policies, key fiscal measures and an
evaluation of how the proposed policies of the Central Government conform to
the 'Fiscal Management Principles' of this act.
o A document titled Macro-economic Framework Statement – This report was to
contain forecasts enumerating the growth prospects of the country. GDP
growth, revenue balance, gross fiscal balance and external account balance
of the balance of payments were some of the key indicators to be included in
this report.
o The recent amendment introduced Medium-term Expenditure Framework
Statement along with the existing three FRBM statements. This new
statement would provide certainty of allocation to Ministries and Departments
over three year time frame. This would help Ministries/Departments in
undertaking de-novo exercise for allocating resources on prioritized schemes
and weeding out such schemes which have outlived their utility. This
statement would set forth a three year rolling target for expenditure indicators
with specification of underlying assumptions and risk involved.

There are some other problems also which could create hindrance in achievement of
the targets such as increasing subsidies. Because of the recently introduced Food
Security Bill the government is expected to bear a loss of Rs 35000 crore. Moreover
the government has decontrolled the prices of the petrol but still the government is
ordering oil companies not to increase prices which will lead to more subsidies for
petroleum companies.
Despite of all these there are some good news also. The commerce department has
reported that India’s trade deficit has narrowed to a seven-month low in April on
weaker imports of gold, silver and petroleum. During the year 2011-12 the
government has achieved 99.65 of indirect tax collection target.
Now conditions of US and European economies are crucial for Indian economy
which is beyond the control of Indian government. So let’s just hope for the best.


Fiscal responsibility budget management act

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