With the States at the forefront in battling the COVID pandemic, it is clear that they should be equipped with more resources than are available at their disposal. It is, therefore, odd that the Chairman of the 15th Finance Commission should be reading out the FRBM (Fiscal Responsibility and Budget Management Act) provisions to them.
What is FRBM Act?
- Fiscal Responsibility and Budget Management (FRBM) Act was enacted by Parliament in 2003 to progressively cut fiscal deficit to 3 percent levels by 2008.
- Fiscal deficit is when the government’s expenditure outgrows its revenues. Controlling fiscal deficit, thus meant, controlling the government’s wasteful expenditure.
- Thus, the FRBM Act put limits on the fiscal and revenue deficit of the country by setting targets for both. These targets were to be monitored through the year by setting mid-year targets.
- The government was to provide make a medium-term fiscal policy statement, fiscal policy strategy statement and macro-economic framework statement to Parliament.
NK Singh Committee –
In the year 2016, NK Singh committee was set up by the government to review the FRBM Act. The task was to review the performance of the FRBM Act and suggest the necessary changes to the provisions of the act. The recommendations of the committee read that the government must target a fiscal deficit of 3 percent of the GDP in years up to March 31, 2020, subsequently cut it to 2.8 percent in 2020-21 and to 2.5 percent by 2023.
Escape Clause –
‘Escape clause’ generally refers to a contract provision that specifies the conditions under which a party can be freed from an obligation. The escape clause under the FRBM (Fiscal Responsibility and Budget Management) Act details a set of events in which the Central government can deviate from fiscal deficit targets. In 2018, the FRBM Act was amended to specify three conditions upon which the escape clause can be invoked.
- First, over-riding considerations of national security, acts of war, and calamities of national proportion and collapse of agriculture severely affecting farm output and incomes.
- Second, far-reaching structural reforms in the economy with unanticipated fiscal implications.
- Three, a sharp decline in real output growth of at least 3 percentage points below the average for the previous four quarters. The FRBM amendments also mentioned that the deviation from the stipulated fiscal deficit target must not exceed 0.5 percentage points in a year.
However, these relaxations (escape clause) is not applicable for the states.
Analysis of the recent relaxations (during COVID19 pandemic)-
- Union Government has provided the states with the additional 0.5 per cent leeway (in addition to 3 per cent of GSDP) provided to them under the Act to deal with extraordinary situations.
- This is not enough to meet the extra demands being made on the government machinery. The fiscal stress is on account of both the ‘numerator’ and the ‘ denominator’ — namely, the rising difference between expenditure and revenue in the case of the former, on account of the sharp drop in revenues accruing to the States amidst rising social commitments; and a shrinkage in the GSDP in the case of the denominator.
- The escape clause is likely to be breached without the State governments doing what is needed to alleviate immediate distress; forget planning for the long-term to bring about a ‘revival’. There are enough grounds to move an amendment to the FRBM Act, extending the scope of the escape clause.
- The apprehensions that the gains of fiscal and financial reforms will be lost are misplaced; these rules are meant for normal situations, not emergencies.
Way forward –
- Experts have pointed out, in the event of a solvency crisis in business and a demand crisis at large, a fiscal stimulus is the only instrument that can work; monetary policy cannot really go beyond addressing liquidity constraints.
- The Covid shock on the fiscal apparatus of States has come on top of a stressed fiscal situation arising out of the prolonged slump in economic growth. SGST collections as well as Central transfers to the States have fallen short of Budget estimates.
- The ‘ Ways and Means’ Advances limit has been relaxed, but this may not be enough. A one-time monetisation of the Centre’s deficit (the RBI buying government bonds directly from the primary market and releasing money) seems the best way forward.
- The Centre, States, the RBI and the Finance Commission should work towards a plan on the possible extent of the deficit — which includes a roadmap to get back to a business as usual scenario.
Source – The Hindu Business Line
QUESTION – What is FRBM Act? Should it be amended to give more fiscal space to the states to cope up with the COVID19-led economic stress?