The fate of Budget 2011 will depend on the success of the US budget in sustaining recovery. Obama's budget gives us a window of opportunity to piggyback on US fiscal stimulus. FM must use this opportunity to address structural weaknesses in our public finances.
A week from today, all eyes will be rivetted on Pranab Babu as he rises to present his third successive Budget. What he says, and, more importantly, what he does in the 12 months beginning April 2011 (typically about 50% of what he says!), will determine the fortunes of a billion-plus people over the coming months.
Let me correct that! The success or failure of his Budget will depend only partly on what the FM unveils in Parliament on February 28. A large part will be depend on the success or failure of another budget presented exactly a fortnight earlier by US President Barack Obama in Washington.
The FM is unlikely to acknowledge that. What, admit to the ‘foreign hand’? But the fallout of the extraordinary ‘conundrum’ of global events, beginning with the 2008 crisis, and our much higher integration with the global economy is inescapable: The outcome of Budget 2010-11 will depend to a great extent on what happens in the US; hence, the relevance of Obama’s budget proposals last Monday.
Here, the good news is that the US is punting on growth. Like India, the US is battling one of highest holes in its public finances (11% of GDP in 2011), a large current account deficit (3.5% of GDP in the third quarter of 2010) and a rising public debt (over 80%).
But there the similarity ends. While the Indian economy has recovered quite smartly from the global slowdown (advance estimates suggest GDP growth will be 8.6% this fiscal), the US is not yet out of the woods (though annualised GDP growth is little over 3%, unemployment is still high, and foreclosures continue). More significantly, unlike Pranabda whose Budget proposals will go through almost unchallenged and often without any debate, Obama’s budget for the fiscal year beginning October 2011 is really a proposal to Congress. It merely sets the stage for months of wrangling with Republicans who now control the House of Representatives and are strongly against large government spending.
There is no guarantee he will succeed. His 2011 budget failed to gather enough support, forcing lawmakers to resort to a stop-gap legal measure to keep funding the government. Failure to agree now would, on paper, result in the government shutting down after March 4 when the present deal expires. It could lead to a replay of the 1995-96 faceoff between President Bill Clinton (a Democrat) and the Republican-led House of Representatives.
That ended happily for the President. The public sided with him (remember, his famous, ‘It’s the economy, stupid!’) and he was re-elected. But there’s no certainty the US elections in 2012 will see a repeat of that. US recovery is still weak and unlike our FM who has a comfortable cushion of another three years before the next elections, Obama faces election in less than two years when the economy is likely to be a key election issue. No wonder, the President (for all his talk of cutting the deficit) has opted to go slow. Even assuming his proposals go through unchallenged, the $3.729 trillion budget for fiscal 2012 shows only a modest fall in the US budget deficit to $1.101 trillion in fiscal 2012 (beginning October 2011) from the previous year’s $1.645 trillion. It is only by 2015 that the deficit is expected to fall to 3.2%.
The roadmap set out meets a pledge made to the G20 to halve the deficit by 2013 compared to January, 2009. But the tough part has been left to the next President, earning him the wrath of people like Erskine Bowles, the Democrat co-chair of the National Commission on Fiscal Responsibility and Reform, for whom ‘the budget goes nowhere near where it will have to go to resolve the US’ fiscal nightmare.’
There is a five-year freeze on discretionary spending outside defence, a two- year freeze on federal civilian salaries, but spending cuts are expected to yield only $33 billion while the President has gone soft on additional taxes. The message is clear: growth first, deficit reduction, second.
What this means for us is that we will get another window of opportunity to piggyback on the US fiscal stimulus. But this window of opportunity may not be open for long. International rating agency, Moody’s, has already warned that it might need to downgrade the outlook on US government bonds to negative faster than anticipated if the US does not manage to rein in its deficit more effectively.
For now, Obama has a breather. But if his gamble on faster growth to get him the tax revenues needed to get the deficit under control fails and Nemesis, in the form of a rating downgrade, catches up with him, all hell will break loose. The world will face another crisis more serious than in 2008. To be sure, that seems a remote possibility at the moment; a black swan event, if you will. But so was the collapse of Lehman! So, mend your roof while the sun is shining, Pranab Babu. Use the good times, they may not last, and address the structural weakness in our public finances in your Budget.
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