Ambitious, populist with eye on polls
If the past record of budget implementation is any guide, the proposed budget definitely looks ambitious in terms of both revenue targets and development spending. There are obviously some elements of macroeconomic populism given the prospect of upcoming general elections, but there seems to be also some genuine concerns regarding the need for higher social spending on health, education and social safety nets. It is for meeting the larger allocations for such spending, along with the self-imposed discipline of keeping the budget deficit within 5 percent of GDP, that the budget arithmetic had to be based on an ambitious target for revenue mobilisation.
For the last few years, total investment in the economy, private and public combined, has lagged behind domestic savings, with foreign aid representing even more additional supply of investible resources. That indicates a serious problem of investment tardiness. There is thus a case for setting a high target for public sector investment, albeit within the implementation capacity. The real concerns about public investment are not about meeting the spending target, but more to do with the poor quality of project implementation resulting in cost and time overruns. The provision of “first tack” implementation of the large prioritised projects is no guarantee that the situation will improve.
Improving the implementation of public sector projects is not the only area needing reforms. Being the last full-year budget of this government, it provided an opportunity for bringing about deep reforms in economic management to consolidate the gains achieved in the past years of this regime. There are important areas of needed reforms in improving the investment environment, addressing the problem of huge tax evasion, and preventing a free-fall in the discipline of the financial sector. The finance minister has mentioned in his budget speech the strategic importance of improving the policy environment in several areas ranging from improving the investment environment by providing one-stop service, making the newly created Special Economic Zones operational, investing more in improving railway transportation, and investing in human resource development. Ironically, he has left out the reforms that lie in his own domain, namely, in addressing the increasing bank defaults and the consequent continuing need for replenishing the capital shortfalls of state-owned banks.
Most of the onus of realising the ambitious revenue target has been put on the introduction of the new VAT system. The main problem with VAT is that the vast numbers of VAT-eligible businesses currently lie outside the tax net. It is not clear how far the new VAT law by itself can address this problem of compliance. Instead, most of the anxiety and apprehension are about how the market will respond to the new system and how businesses of different types are affected by it.
The new VAT law imposes the same uniform tax rate, instead of the existing truncated rates, at every stage of value chains from production and import to the wholesale and retail sale points along with the provision of claiming deductions for VAT already paid at earlier stages. While VAT is a smart modern system of taxation, we are applying it in our circumstances of not so smart an economy where tax evasion is rampant, business record-keeping is of dubious quality, tax administration is poor, and the informal and formal businesses are intermingled in the supply chains. The tax authorities will need to monitor its implementation and should be ready to adjust and make changes so that all the stakeholders get a fair deal while there is also the needed boost in tax collection.
For appeasing the business community, the list of VAT-exempt items have been widened at the last moment. It is doubtful if the new items included in the list can be categorised as essential items for claiming such exemption.
One main weakness of our tax system is that instead of dealing with the difficult problem of tax evasion, we take the easy route of finding short-cuts and extracting more taxes from those who are already in the tax net. The enhanced rates of wealth tax, which is in fact a surcharge on income tax, impose an excess burden on the existing taxpayers who diligently show their wealth, while tax dodgers and the earners of black money go scot-free. The increase rates of excise duty on bank deposits, again, can hardly be justified by any sound tax policy, particularly when the interest rates on deposits remain extremely low.
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