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The Rediff Pre-budget Special/Nirupam Bajpai, Jeffrey D Sachs

Benefit of privatisation: larger national savings

Part I: Lowering revenue deficit, subsidies hold key to fiscal consolidation

Expenditure reform in India is critical in view of the fact that India's government dis-saving and overall level of government spending remains high. There is probably little room to cut capital expenditures, in view of the fact that they have already been squeezed to a mere 3.3 per cent of GDP in 1998-99.

Of course, in the future, it should be the private sector rather than the government to meet most of the enormous infrastructure needs of a growing economy. Still it is hard to imagine that rapid growth can be accomplished with public investment spending by government of less than the current rate relative to GDP.

Governmental action is needed in reducing expenditure under four major heads of current spending. With respect to internal public debt, there is one important mechanism that could substantially ameliorate the fiscal situation.

Privatisation of public enterprises could raise significant funds as a per cent of GDP, which could be used to buy down the public debt.

Not only would the stock of debt itself be reduced, but also the interest costs of servicing the debt would surely decline as the debt stock itself was brought under control. The cash value of these enterprises vastly exceeds the present value of profit flows that the state now collects on these assets.

Public sector profits are dissipated in poor productivity, over manning, excessive public sector salaries, soft budget constraints, and generally poor public-sector management. For this reason, sales of the enterprises to private sector buyers, if used to buy down the public debt, would yield annual saving in interest costs that far exceed the government revenues that are claimed by virtue of state ownership of the assets. This is especially true in view of the fact that many enterprises with significant positive market value are actually loss-makers in current cash flow, under state management.

The central government currently has equity holdings in 240 enterprises, 27 banks, and two large insurance companies. Further spending cuts could come from liquidation of loss-making enterprises that have no positive net market value. Liquidation of these would imply a rise in domestic savings.

Of course, saving would be higher if there is salvage value in part or all of some of these enterprises. To capture these savings would require implementation of an exit policy to allow the government to close down these loss-making enterprises.

Reduction in central government subsidies is another area of expenditure control. According to the Discussion Paper on Subsidies brought out by the Ministry of Finance in 1997, the total magnitude of subsidies given by central and state government was Rs 1.372 trillion during 1994-95 constituting 14.4 per cent of GDP, comprising Rs 430 billion of central subsidies and Rs 942 billion of state subsidies.

The subsidies of centre and states on non-merit goods and services (such as agriculture and allied activities, irrigation, power, industries, transport, etc) amounted to 10.7 per cent of GDP. The average all-India current recovery rate for non-merit goods and services was placed at 10.3 per cent in 1994-95, with the recovery rate for centre being slightly higher at 12.1 per cent than 9.3 per cent for states.

Reforms in the current subsidy regime should be undertaken with the objective of reducing the overall scale of subsidies. Moreover, the reforms should help make the subsidies transparent, and use them for well-defined economic objectives.

Subsidies should focus on final goods and services with a view to maximising their impact on the target population at the minimum cost.

The key to subsidy reduction lies in phased increase in user charges in sectors, such as power, transport, irrigation, agriculture and education.

Reducing the size of the public administration could also cut government spending. One way to achieve a reasonable degree of success in this direction might be a freeze on new employment, matched by normal attrition through retirement and death.

Existing functions could easily be met through modest improvements in computerisation and information systems. Obviously, bolder -- if less politically palatable -- solutions could result in even larger savings.

Part III: Wanted: tax reforms, higher allocations for health and education

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