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June 3, 1998


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The Rediff Budget Special/ Ajay Shah

Budget might pave way for entry by foreign insurance companies

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Prior to the Budget, we'd seen a variety of doom and gloom scenarios about what this Budget might have been. The most dangerous of them was the scenario of a swadeshi Budget -- with policy initiatives which would curtail foreign investment, throw up protectionist barriers, etc.

My main reaction to the Budget speech is that one element of this swadeshi package is there -- the increase in customs tariffs for some goods -- but the overall flavour of the Budget is more of a middle road.

On the fiscal side, there are few degrees of freedom in any case. No economist favours increasing revenues from indirect taxes (and this Budget violates this objective by increasing revenues from both customs and excise) and increased revenues from direct taxes are difficult to obtain. Hence, fresh spending initiatives would generally have to turn into a higher deficit. For this reason, I'd have expected to see very little by way of new spending proposals.

Instead, I saw a lot of spending in the Budget. The Budget projections seem to assume a 14 per cent nominal growth in the gross domestic product. That's going to be hard to obtain in the best of times (we'd need to get numbers like 6.5 per cent inflation and 7.5 per cent GDP growth). In this case, the estimates of the gross fiscal deficit that Sinha read out might be biased on the downward direction. If the reality turns out to be something like 6 per cent inflation and 5 per cent growth, then the gross fiscal deficit might turn out to be as high as 8 per cent of GDP, which is a really bad scenario.

At a deep level, the 'repressed financial system' that we built up over decades in India was derived from the constraints of a government that found the financial system (primarily the banks) as an easy avenue for financing deficits. In this sense, a return to gross fiscal deficit of the order of 2 to 3 per cent of GDP is of essence in paving the way for structural financial sector reforms, especially of the banking system.

I appreciated P Chidambaram's obsession with improving direct tax revenues for this reason; that's the root cause of the entire problem. In this sense, I see this Budget as being a step away from the achievements of the early 1990s on lowering the fiscal deficit.

Since the early 1990s, a new strand in India's budgeting process is the idea that government should retreat from many parts of the economy and a new institutional framework should evolve for private/foreign infrastructure projects. This Budget signals a shift in that the government is back into doing infrastructure to a bigger extent.

The delays that we have had in India in terms of opening up the insurance sector have no rational justification. It is a poor comment upon our policy process that the labour unions of existing insurance companies have been able to delay things for so long. The announcement in this Budget is obviously a good idea; it is better to have private insurance companies competing in India instead of having public sector monopolies. Perhaps this will pave the way for entry by foreign insurance companies in the future.

The first thing Sinha talked about was a modification to SCRA that would enable trading in index futures. If this paves the way for a rapid commencement of trading in Nifty futures, it would be an extremely important step forward for India's financial sector.

If this implies more weeks of delay in the much-delayed index futures market, then it would be a shame. The National Stock Exchange has been waiting ever since mid-1996 to launch trading in index futures. As in the case of insurance, I think these delays are a poor comment upon our policy process.

Why do these things have to take so much time and politicking? These delays serve as warnings for pioneers of new ideas in India's economy, they reduce the incentives for people to take interest in new ideas.

Dr Ajay Shah is an assistant professor at the Indira Gandhi Institute of Development Research, Bombay.

Budget '98

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