On February 28, Finance Minister Arun Jaitley released India’s 2015–2016 Union Budget and delivered the annual Budget Speech, laying out the government’s thinking on economic reforms. As we had pointed out ahead of its release, the budget’s significance as a tool of economic reform has steadily declined over the last couple of decades. Yet it still remains the single most important pre-scheduled tool for the government to tinker with the economy.
February 28 met our expectations perfectly with some good incremental changes, but we’ll be following the Bharatiya Janata Party’s (BJP) ability to push forward with other reforms in this budget session of Parliament with greater intensity—in particular, the Goods and Services Tax (GST) constitutional amendment, the Insurance Laws (Amendment) Bill, and the divisive Land Acquisition (Amendment) Bill. The toughest budget-related reforms still pending—reducing subsidies and expanding the taxpayer base—can be politically difficult to implement as the country’s growth rate is gaining steam.
Despite its limited utility as a reform tool, the Union Budget did contain some important provisions. Among the more notable changes, the Finance Ministry will reduce the scope for transfer pricing disputes, remove certain duty inversions that make it cheaper to import finished goods than their intermediate components, and strengthen the government’s capacity to invest in infrastructure.
Through Minister Jaitley’s Budget Speech, we did also get important insights as to the government’s legislative reform targets once the current set of reform bills moves ahead. These legislative reforms include the Indian Financial Code as envisioned by the Financial Sector Legislative Reforms Commission (FSLRC), a Public Contracts Dispute Resolution bill, and a new Bankruptcy Code. Businesses will also eagerly await the government’s moves to adopt the recommendations of the Tax Administration Reforms Commission (TARC) to curb rampant abuses of sweeping tax powers by assessors.
One note of concern to foreign investors is that the finance minister did not offer much insight as to further progress in liberalizing the foreign direct investment (FDI) regime. There were only a couple of points in this regard: first, that foreign investments will be allowed in alternative investment funds, and second, the intention to “do away with” the distinction between FDI and foreign institutional investment (FII) and instead have composite caps for each sector. While important, neither would be judged to be as groundbreaking as the finance minister’s FDI cap announcements in July 2014 in defense, insurance, construction, and railways—all of which were adopted within months (though legislation increasing the insurance FDI cap is still pending). However, the Economic Survey, released by the Finance Ministry a day earlier, referenced the possible impact of key reforms in sectors such as e-commerce and retail trade (as well as the importance of reducing reliance on trade barriers for the “Make in India” campaign).
The Union Budget will again become relevant as a major policymaking tool when the government in power decides to move forward with two other critical steps:
1. Using the better targeting of benefits through AADHAAR and other means to dramatically reduce the nation’s subsidy bill; and,
2. Expanding the taxpayer base by widening the criteria under which individuals and companies must pay taxes.
Of course, we cannot expect either of these types of reforms from a new government just as India appears to be entering another growth cycle. But if growth begins to run over 8 percent for multiple consecutive years, it may give the government confidence to make these difficult political decisions. For now, this year’s Union Budget seemed fair and appropriate in its scope. But a more important test is underway as investors watch how well the Modi government manages difficult votes on other reform-oriented bills now pending before Parliament.
By Richard M. Rossow
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