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Fiscal Policy, Fiscal Rules & Managing Deficits/Debt
An introduction
Presentation
To
IRS officers
at
NACEN, Faridabad on 20th September, 2011
P.R. Devi Prasad IES
Director
Fiscal Policy Institute & Head Fiscal Policy Analysis Cell
Finance Department Government of Karnataka
Complexity and conflict of interests,
moral hazard
Citizen:
How to get more from Government by paying less
Vs.
Government:
How to give more to citizens
while taking more from them, and also
balancing special interest effect and
shortsightedness effect
Discussion point: Reactions to policy solutions & reforms
Perversity thesis: Futility thesis: Jeopardy thesis
Key Principles
• Nobody spends somebody else's money as carefully as he spends his own.
• Government has nothing to give anybody except what it first takes from somebody, and a government that’s big enough to give you everything you want is big enough to take away everything you’ve got.
Role of government ?
A provider or enabler… in
Creating Wealth?
Delivering Welfare?
Disclosing entitlements?
Defining empowerment?
Determining Property rights?
Qn: How significant is the initial endowment ?
Issues: Problem recognition, measurement, diagnosis, solution and implementation
Fiscal Policy
Represents formulation and implementation of government sector activities through budget
Achieves budget balance though size of government, type of budget financing and revenue & expenditure composition
Covers all levels of government including quasi government
Seeks internal & external balance, lowers debt, ensures long-term sustainability
Provides public goods; promotes private investment; engineers pro-poor growth
Reduces poverty and provides good governance
Issues: impact on interest rates, aggregate demand, output growth, competitiveness, credit rating, crowding out private sector;
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GDP
• GDP: Gross Domestic Product
– indicates annual national wealth production (value
added at every stage of production of goods & services: CSO brings out Advance, Quick and Quarterly estimates)
• Economic Growth
- GDP Growth: indicates how fast a nation is getting richer (Real Vs. Nominal Growth & WPI)
Issues: What causes higher GDP growth - Increase in Output:
What causes increase in Output – Increase in productivity & employment:. What causes increase in productivity – increase in efficiency.
What cause increase in efficiency - enhanced/effective technology & raised skills: What raises investment and skills - Creative people with money;
How to do that - Help more people to be creative & help them to have access to more money. (Note: The above slide and issues are framed using publicly available sources)
Y=C+I+G+(X-M)
What is Fiscal Space? Challenges to Fiscal Space ? Taxes: Driver growth or Hamper? Institutions: Driver growth or Hampers? Policies: Drive growth or Hamper? What is Fiscal Decentralization? GST : is it a case of Centralization ?
Issues: Stability, Simplicity, Transparency, Predictability, Certainty and Trust Reference: Report of the Task Force on Indirect Taxes 2002
Income Cycle …
Issues: Market Imperfections Vs. Competition Reforms: Product market, factor market, capital market
Households, Firms, Government, Rest of the World
Some key Principles in Public Policy
• What belongs to you, you tend to take care of; what
belongs to no one or everyone tends to fall into disrepair.
• Sound policy requires that we consider long-run effects
and all people, not simply short-run effects and a few
people.
Key issues: Equity, Efficiency, Effectiveness, Economy, Entitlements
Ref: CAG’s Performance Audit Guidelines, and UK Government Green Book
If there is vagueness or subjectivity in the terms and conditions inviting tenders it may result
unequal and discriminatory treatment. It may violate doctrine of level playing field – Supreme Court of India on 17th Sept, 2007 in Reliance Energy case relating to Mumbai Trans-Harbour Sea link Projects
Should Equity be the Growth Policy Goal? If yes-
what are the issues in Policy design?
What are the implementation challenges?
How taxes policies can promote equity?
How to leverage Performance audit Reports for reforms?
What are the indices for quality of Growth?
The objective of
education is defined as acquiring skills
'to discover truth, to tolerate diversity, and
to practice fairness in assessing and relating to each other'
Flow of Funds from Centre to Schools
PT
Citizen CFI/Parlia
ment
Govt of Karnataka
CFK
SSA Donor
Projects Loans/grant
s
Zilla Panchayat
HRD MoF/CFI
Block
Drinking Water Supply Welfare
Min
NREG
Aided Schools
Flow of Funds-TAXES & Allocations: disbursements, sanctions, releases, expenditure, utilization, accounting & auditing
Govt Schools
Fees & Donations
Text Book Society etc.,
Anganwadi & Noon meal etc.,
School, PTA, TEACHERS, HEAD MASTERS
Student Boy
Student Girl
Student Special
RDPR
Education Dept
WCD
Treasury
Fiscal laws 1. Improve fiscal discipline with monitorable fiscal policy
2. Themselves don’t buy credibility or substitute for prudent fiscal policy or political commitment
3. Lead to non-monetization of debt
4. Contain short term horizon of political leadership
5. Promote policies have to be ex-ante and not ex-post
6. Escape clauses
7. Design features matter for effectiveness
8. Procedural and Numerical Rules
9. Incentives to deliver fiscal policy/discipline
10. Limits and disadvantages of numerical ceilings
11. Criticality of Transparency and accountability
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Issues: use public resources for productive purpose to generate future incomes; increase domestic savings and well developed capital markets to absorb deficit easily; maintain public debt at a level that is consistent with macro –economic objective.
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Budget & the Constitution
While the following provide for
• Procedure in Parliament with respect to Estimates … 113
• Appropriation Bills … … … 114
• Supplementary, additional or excess grants … 115
• Votes on account, votes of credit and exceptional grants … 116
• Special provisions as to financial Bills … 117
• Consolidated Fund … … … 266
• Contingency Fund … … … 267
• Finance Commission … … … 280
• Expenditure defrayable by the Union out of its revenues … 282
• Laws/Rules for Custody, etc., of Consolidated Funds,
Contingency Funds and moneys credited to the
public accounts … … … 283
• Borrowing by the Government of India … 292
AFS- Anchor to all documents: Art 112 Trigger to All Documents
*Annual Financial Statement
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Legal Frame work
Borrowing by the Government of India - Art. 292
The executive power of the Union
extends to borrowing upon the security of the
Consolidated Fund of India
within such limits, if any,
as may from time to time be fixed by
Parliament by law and to the giving of guarantees
within such limits, if any,
as may be so fixed.
Constitution, FRBM Act, Public Debt Act, etc.,
India’s FRBM Act – Managing The Mandate
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Legislative Objective of fiscal responsibility
and budget management
“To Provide for the responsibility of the Central Government to
ensure inter-generational equity in fiscal management and
long-term macro-economic stability by achieving sufficient
revenue surplus and removing fiscal impediments in the
effective conduct of monetary policy and prudential debt
management consistent with fiscal sustainability through limits
on the Central Government Borrowings, debt and deficits,
greater transparency in fiscal operations of the Central
Government and conducting fiscal policy in a medium term
framework and for matters connected there with or incidental
thereto.”
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Budget
Making Budget
Management
Budget Review
FRBM Framework
F R B M Act
•(a) limits on Fiscal & Revenue Balance, debt & guarantees, •(b) Disclosures, (c) H1 performance indicators, (d) Transparency
A c c o u n t a b I l I t y* Disclosures
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FRBM Goals
• Reduce by >0.5% of GDP
• Reduce by >0.3% of GDP
• Assume < 0.5% GDP
• Reduce to “zero” by 2008-09 & build surplus later
• Reduce to 3% of GDP by 2008-09
Revenue Deficit
Fiscal Deficit
Contingent liabilities
Annual Medium Term
Triggers -Target time - Goals
Budget Circular - 29th February - FRBM Act - Annual Plans
Inputs Source Output presented in
1 SBE/ spending performance Line Ministries Demands for Grants
2 Pre-budget meetings Line ministries/ PC & CGA
Non-Plan in Demands for Grants
3 NTR/ guarantees/ assets profile/NTR arrears
Line ministries Receipts Budget statements
4 Plan allocations PC, DoE & Line ministries
GBS: Plan in Demands for Grants
5 State entitlements FC & DOE Transfers to States
6 Revenue receipts DoR (CBDT/CBEC) BE & RE
7 Debt/liability profile & Interest liability (instrument specific)
RBI, CAAA RE & BE, Receipts Budget statement
8 Resource Gap MoF Deficit targets
9 Fiscal Policy/ Strategy/GDP MoF FRBM Statements
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Budget & Debt Management
• Objectives – Minimize costs and risks in long & medium term
– Develop/ maintain efficient market for government securities
– Enlarge savings options
• Process – Preference to domestic debt (that finances about 90% of deficit)
– ‘No debt’ from external commercial sources
– Increasing reliance on marketable debt instruments
– Elongation of maturity of government securities
– Average tenor in 2005-06 is 15 years, longest tenor 30 years
– Institutional and administrative reforms to make debt market modern and deeper
for deficit financing
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Costs
inputs
processes
outputs
outcomes
V
A
L
U
E
For
M
O
N
E
Y
Technically
efficient
E
C
N
O
M
I
C
A
L
L
Y
E
F
F
I
C
I
E
N
T
Effectiveness
Economy Traditional Budget
Output focused
Budget
Outcome focused
Budget
Budget performance Concepts, Systems/Management styles
Source; IMF Occasional Paper 245
Monetary Policy: objective & tools
• What determines Demand for Money?
• What determines supply of Money
• What determines Stock of Money
– Transactions and Store Value
• Liabilities of Central Bank
• Instruments – to increase costs, to limit business volume & operations
• Direct and Indirect instruments
• FRBM Act & Objective of blending monetary and fiscal
policies
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Transmission of Monetary Policy
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Official
rate
Market
Rate
Asset
Prices
Expectations
and
Confidence
Exchange
Rate
Domestic
Demand
Net
external
demand
Total
Demand
Domestic
inflationary
Pressure
Import
prices
I
N
F
L
A
T
I
O
N
Sterilization, Market stabilization bonds, money supply, interest rates
Indian Structural Reforms Macro, Meso and Micro
1. Liberalization and regulation of specific markets
2. Trade Liberalization
3. Public Sector Management
4. Restructuring and privatizing utilities
5. Public expenditure reforms - economy, efficiency, transfers, user charges
6. Tax reforms
7. Public debt management
8. Monetary policy –Central bank independence
9. Financial Sector Reforms
10. Private and Public Governance Reforms
11. Decentralization and intergovernmental reforms
12. Civil Service Reforms
13. Land Reforms
14. Labour Reforms
15. Environmental Regulations
Issues: Is market system necessary for democracy: Democracy and Market system = Mass control over elite: Collective outcome Vs. Market outcome.
Government decision makers are like ordinary decision makers in market: influenced by their interests and bias but work in different incentive structure. ( eg: Distribution of income and power)
100 billion Indians’
approval to Deficit & Gross
Borrowings in BE ≈1/5th
of GDP
Leads to
Six months
Indicative Borrowing schedule
that helps
create
CFI
Dynamics of the debt redemption &interest payments by MoF from CFI
150 Primary Dealers to buy/redeem bonds (Assets)
RBI converges liquidity
needs with
bonds issue
schedule
Assumes annual
Costs of financing
the deficit ≈
difference in Gross
& Net
debt
Relevant Laws: Public Debt Act; RBI Act, SS Act, Govt. Sec. Act. FRBM Act,; Constitutional obligations to States & Public A/Cs; Notifications, MOUs with RBI
Debt
A N D
W & M Advances
Drawls from Cash Surpluses
Access MSS
NSSF Drawls
O P T I O N S
Domestic debt
I N S T R U M E N T s
<14 days TB
< 365 days TB
6 Years tenor
10 Years tenor
Special & Long Term
C R E a E S
P R I V A T T E
A S S E T S
T A K E S
O V E R
L I A B I L I T Y
Thus RBI’s CRR Policy & Liquidity Considerations
influence
i.e., G R O S S
D E B T
@ N E W
C O S T
Cash
Paid By
PDs
On
Net
Buy
B O N D S I S S U E D / R E I S S U E D
TO
I N T E R E S T
P A Y
O U T
A S
Charges/Fees
Charges/Fees
Charges/Fees
Interest
Interest
+
+
+
+
Balancing receipts & expenditure into
Pay
10% GDP as
T A X E S
To States’ Share
Net to’ Centre
Disbursements Through remaining
104 Demands
/ Grants in BE
≈ 4/5th of GDP
L E G E N D
CFI’’s pay out
relationship
Innovations
Instrument/ Fund
'Policy flow
PDs pay out
To NCCF
RBI/ PDs/ PSUs States
Pay NTR
We have to got to have…
…knowledge of what we intend to do & its related policy framework
…skills to apply that knowledge demonstratively
& productively …ability to understand implications of the skills
to measure the impact of those applications
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Thank You
Comments, questions, suggestions
or
Recommended reading http://www.theamericanscholar.org/the-disadvantages-of-an-elite-education/ 29
Group discussion
1. We want more subsidies ?
2. We don’t want reforms ?
3. Learning from Key findings from Audit Reports on institutional issues of Indirect Taxes in various States and Centre.
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References
1. Micro Economics Public and Private Choice Gwartney, Stroup and Sobel
2. Report of the Task Force on Indirect Taxes, MoF 2002
3. Government Budgeting and Expenditure Controls by Premchand
4. Fiscal Policy: Fiscal Elements of Growth and Development G:20 & Republic of Turkey
5 Unlocking Public Value by Martin Cole Greg Parston
6. IMF Blog on PFM
7. C & AG website
8. www.adamsmith.org
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Core Budget Documents = 13+
1. Key to Budget Documents
2. Annual Financial
Statement
3. Budget at a Glance
4. Budget Speech
5. Budget Highlights
6. Action Taken on Budget
Announcements
7. Receipts Budget
8. Finance Bill
• Customs & Excise
Notifications
Presented by MoF and line Ministries
9. Explanatory Memorandum
10. Appropriation Bill
11. Demands for Grants • Exp. Budget Vol-1
• Exp. Budget Vol-2
12. FRBM Statements
• Macro-Economic framework for Year T+1
• Medium term fiscal policy for Years upto T+3
• Fiscal policy strategy for the Year T+1
• Deviations statement for Year T
13. Detailed Demand for Grants*
Pink Bold italics: Constitutionally mandated: Blue Bold: legally mandated White : supporting documents: * of respective ministries
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Few more Documents
• Economic Survey
• Supplementary Demand for Grants
• Finance Accounts
• FRBM Statements – Q4 of Year T-1
– Q3 of Year T
• Outcome Budgets
• Annual Reports
• Finance Commission Report
(Accepted Recommendations)
• Five Year Plan Documents (Annual Plans & Evaluation Reports) • RBI Reports relating to
–Credit /Policy
–Macroeconomic &
Monetary Developments
–State Budgets and
–Annual Report
• PSUs’ Annual Reports
Related* Relevant*
Discuss: *How & why to relate ? * How & when to look for relevance ? 33