2012-13 Budget: Less with more?

The submission of an annual budget to the nation by the government for the forthcoming fiscal year is a routine exercise in developing countries. Budgeting is essential for efficient allocation of scarce resources (both internal and external) on a priority basis among competing activities to attain some well-thought-out stated national annual target(s) such as real GDP growth or job growth or inflation rate or a combination of either job growth or inflation rate with real GDP growth. The budget should be well-documented at various stages beginning with pre-budget statement specifying overall spending, revenue and debt/deficit. This is followed by submission to the legislature for debates with all the details on the above. Once approved by the legislature, the budget is enacted for judicious implementation by various agencies/ministries.

Subsequently, a quarterly (if not monthly) progress report ought to be issued on how the budget allocations are being implemented, followed by a mid-year performance review and roadmap for the remaining six months of the fiscal year. Next, a year-end report is a must with a detailed picture on the budget activities within six months. Finally, an auditor's report is required on whether, and how, the government implemented the budget, as voted by the legislature. Needless to say, proper budget documentation with honesty is the key to assess government's performance in achieving the stated annual target(s).

The state annual budgeting is different from individual household budgeting. A state first determines the level of spending on a priority-basis and then endeavours to procure financing (to spend, as intended). In contrast, a household determines financing first and then set the level of spending (to remain within means). As a result, state budget deficit is a common feature due to government's spending addiction. Budget deficit is thus no surprise, but it should be kept within a manageable limit as pre-determined at X% of GDP. Otherwise, addition of annual deficit to outstanding national debt will go out of control. Excessive foreign component (loans and aid) of national debt will surely spark unwanted financial strains. Recent lessons should be drawn from Greece, Spain, Italy, Portugal and Ireland within the 17-nation Eurozone.

Internal resources include domestic tax and non-tax revenues. Greater reliance on them reduces dependence on financing from foreign sources. But they need to be progressive, pro-growth and pro-job, being investment friendly.  Rates increases in various taxes and fees do not necessarily result in higher fiscal revenue in the case of shrinkage in the tax base. Larger fiscal revenue collection is possible with reduced rates, if the resulting loss is more than offset by broadening of tax base.

Shortfalls of expected internal revenue and external/foreign financing necessitate deficit financing by printing money (monetization of deficit). Higher bank-based financing of budget deficit by the government will push interest rate higher due to excess demand for loanable funds. This, in turn, will crowd out private investment and less funding will be available to the private sector. Government borrowing from banks is expansionary conditional upon its productive uses and crowding out of private investment is contractionary. So, the net effect on the economy remains uncertain. Again, who spends money more wisely—government or private sector? This is a long-debated issue since they pursue different economic goals. This is not a question of how much money is spent. More important is how wisely the money is spent.

Subsidy (negative tax) is another long-debated macroeconomic issue. To some, it is good to promote social goals and balanced economic development. To others, it is wasteful due to corruption and undue politicization of distribution. Subsidy can be extended in various forms such as tax rebates, fees waiver, reduced interest rate, cash, etc. Among all, cash subsidy is the worst. To mitigate deadweight loss, subsidy should be given in kind and at the sources.

The budgeting process also requires macroeconomic modelling for a country to predict real economic growth, job growth and inflation rate. The prediction requires a set of rational assumptions, dynamic input-output coefficients table and proper understanding of resource constraints. Absent the above information, it is hard to comment precisely whether 7.2% real economic growth (as I presume) and 7.5% inflation targets are achievable by the end of the next fiscal year. Perhaps, there are many unknowns and unpredictables to unfold in the next 12 months and beyond. They may include unanticipated resource shortfalls (both internal and external), political unrest, labour unrest, bad weather for agriculture, exchange rate depreciation, rises in commodity, oil and metal prices in the word market, shrinking exports of RMGs, increased return migration of temporary workers from overseas or foreign demand contraction and dwindling concomitant remittances (over 10% of GDP), etc. To be noted, export receipts from RMGs and manpower together constitute over 25% of Bangladesh GDP. Amid so many unknowns/uncertainties, a more prudent course would be reasonable interval estimates for the above instead of point estimates.

Sectoral budget allocations reflect quantitative relative priorities of various sectors of the economy, not necessarily their qualitative attributes. Allocations do not end in themselves. A lot more depends on the magnitudes of actual disbursements, timing of disbursements and their real values, implementing agents and extents of actual implementation, extents of corruption and politicization, etc. For example, if a project receives disbursement toward the end of the fiscal year, it actually receives less in real term on adjustment for meanwhile inflation. Such projects are unlikely to be completed on time. Thus, timing of disbursements and their extents matter. One-time and early disbursements of allocated funds vital to lumpy projects are very essential, in particular.

In modern economic growth theories, in addition to capital and labour, the other factors that matter in output production are technologies, physical infrastructures, education for human capital formation and productivity enhancement, uninterrupted electricity supply, etc. Increase in real GDP per capita is a quantitative indicator of economic progress. Economic growth with its proper redistribution improves economic development and hence quality of life, reflected in increases in life expectancy and literacy rates. Again, the trade-off relationship between economic growth and redistribution at early stages are debatable.

In Bangladesh, the percentage of active-age population with no jobs and underemployment is presumably no less than 40%. Around 90% of 160 million people live in rural areas. Agriculture is the principal supplier of staple food items that still constitute over 40% of the annual GDP. The rural-urban income inequality (as measured by the income Gini coefficient) is wide and widening further in favour of the urban sector. The consumption Gini coefficient is even worse reflecting rural poverty. The root causes are asymmetric access to education, income and job opportunities, adverse domestic terms of trade for agricultural produces in relation to non-agricultural produces, backward physical infrastructure, lack of holding capacity for agricultural produces after harvesting, lack of agro-based industries, paucity of capital at affordable rates, etc. In short, the rural sector needs additional capital infusion for dynamism to overcome some of the aforementioned.

Annual budget submissions are annual exercises and sporadic standard comments from personal as well as institutional perspectives abound. The 2012-13 annual budget submission and the immediate comments thereon are no exceptions. In light of the foregoing conceptual discussions, let us now devote some attention to analyze several factual aspects of the overall budget.

The nominal level of spending for 2012-13 is approximately set at Tk 1.90 trillion prioritizing rightly the development in energy and physical infrastructures. Emphases are also placed correctly on infusion of dynamism into rural development, human resource development and wider safety net for the economically vulnerables and the socially disadvantaged. Given the historical data on budget allocations, the nominal size of this budget in Taka term may seem quite ambitious. Some may also smell politics in it for the next election. But it is not so ambitious in real term on adjustments for year-to-year inflation rates. When converted in dollar terms at the current exchange rate of Tk 82 for one U.S. dollar, the current spending amount may be on a lower side. Allocations for annual development (Tk 550 billion) and non-development expenditures (Tk 350 billion) together represent 47.4% while the rest is for recurring expenditures. The non-developmental expenditure allocation is 63.6% of allocation for annual development. In quantitative term, the allocations are seemingly on the right track. However, the evil may lie in their qualitative attributes pertaining to implementation at all levels with timely and optimum disbursements subject to fairness, accountability, and transparent governance.

The reliance on domestic financing is 80%. Reduced dependence on external financing, given the impending overall global conditions, is a step in the right direction. Mobilization of Tk 1.12 trillion internally from tax and non-tax sources will prove to be a tall task. Foreign financing may have to be cut back in view of a lackluster world economy. If so, the government may have to either slash the spending level or far exceed borrowing from banks beyond Tk 201 billion. In either case, real GDP growth will fall short of 7.2% and thus the size of budget deficit will explode beyond Tk 500 billion. Given a political constraint for next election, the government is very unlikely to slash spending. Consequently, the actual budget deficit will rise well over 5% of annual GDP. Massive government borrowings from banks may reduce credit flows to the industrial sector. This may retard industrial output growth. The inflation target at 7.5% is also up in the air due to unanticipated excessive monetization of deficit and unpredictable oil price, exchange rate, weather conditions, etc.

The nominal allocation each for energy and industry almost doubled.  Both have significant percentages of foreign capital components. Given the current pessimistic world economic outlook and heightening domestic political uncertainty, foreign capital inflow may decline. As a result, some of their lumpy and ambitious projects may not be funded adequately and timely. Both are interrelated. So, unintended further disruptions in electricity supply may hurt both industrial growth and agricultural growth.

Rightly, higher allocations for roads and highway communication (by 33%), and railways and shipping (by 25% each) make a lot of sense as they are vital to economic growth and distributions of goods for marketing. Again, only timely and optimum disbursements of funds can ensure the aspired outcomes.

The second highest allocation for the education sector is also a very timely and wise step. Monetary allocations alone in this sector do not always produce good results, as cross-sectional empirical evidences reveal.  Higher allocations must be complemented by better quality instructions, current and appropriate curricula, depoliticized teacher/faculty appointments, proper implementation of redesigned academic programs, etc. Just throwing good money on perceived bad stuffs does not make enough sense to me. True, education is the key to human capital formation and productivity improvement. But money alone cannot guarantee them in the current academic environment.

The allocation for defence is Tk 120.88 billion. Military job in Bangladesh is directly the least productive and the safest as conjectured. Politically, the military is a symbol of national sovereignty and identity. Excepting such national symbolism, it serves no economic purpose directly, given Bangladesh's geo-political location. However, our soldiers in recent years are earning some foreign exchanges through deployment in the UN peacekeeping missions. They should be deployed increasingly in such missions.

The logic for raising export tax from 0.6% to 1.2% does not seem very convincing. True, for X-amount of RMGs export earnings in U.S. dollar, one will receive a higher amount in Bangladesh Taka as it continually depreciates against the U.S. dollar.  Hypothetically, if Bangladesh's Taka depreciates further by 15%, then the adjusted export tax rate should be 0.75%, not 1.2%. Given the Eurozone's dismal economic conditions and U.S. reluctance on political grounds, exports of RMGs are likely to take a hit. So, both timing and the magnitude of such an increase deem inappropriate.

Allowing whitening of black (undisclosed) money, again, at the existing tax rate (though with added 10% penalty rate) seems to be erroneous as it perpetuates moral hazards for subsequent legal violations. Outcomes for increased capital inflows for financing investment through whitening of black money does not seem promising. Then, what is the purpose of repeating this mistake? This illusive provision must no longer exist in the future budgets. The wrong-doers also must not go unpunished.

Bangladesh stock market has been in a state of paralysis for 1 ½ years or so. It shows no clear sign of recovery. No measures for stock market revival are observed in this budget document. At the same time, no direct attempts are made in this budget to help grow local entrepreneurship and improve labour productivity.  Furthermore, targeting job growth in rural and urban sectors with a greater emphasis on rural job creation is so pivotal. The rural sector deserves larger allocation as government spending per capita is much lower than that in the urban sector. Bangladesh has immense potentials for growth in ago-based industries (SMEs) and the tourism industry. They should have been given more adequate attention in the development plan. Slashing of subsidy to agriculture is also questionable, given its substantial contribution to GDP and employment. Furthermore, the budget remains silent on the issues of export diversification and development of export facilitation services.

Apparently, the 2012-13 budget is a good theoretic document setting mostly the right goals, targets and priorities as shown in enhanced sectoral nominal allocations. The more, the merrier. But the more is meant for whom? It depends on how and when the budget allocations are actually disbursed and implemented. More spending in proper manners may produce good economic outcomes to entice voters or to inflate wealth of government's political activists. Due to unexpected shortfalls in financing, rising debt-servicing and higher inflation, larger nominal allocations may virtually leave all of us with less in real term. In contrast, continuous efficiency improvement at all levels and interministrial proper coordination could deliver more with the same or even with less. If the past annual budget performances are a prelude to the sixth five-year plan, the lofty visions therein are being chased as a mirage.

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Matiur Rahman is the MBA Director and JP Morgan Chase Endowed Professor of finance at McNeese State University, USA.