Public Expenditure in India: Trends and Issues

Expansion in Government Activity After Independence

Defence: Increased attention due to partition and border disputes with Pakistan and China.
- Internal security also strengthened.
- Continuous military equipment supply to Pakistan by USA to tilt balance of power.
Education: Substantial increase in public expenditure.
- Free and compulsory education for children between 6 and 14 years as a fundamental right.
- Sarva Shiksha Abhiyan (SSA) for primary education.
- Rashtriya Madhyamik Shiksha Abhiyan (RMSA) for secondary education.
- Increased number of higher education institutions.
Health: Increased expenditure on health facilities.
- National Health Mission (NHM) aims for universal access to quality healthcare services.
Infrastructure: Integral part of Five Year Plans focusing on transport, communications, and irrigation.
- Power projects given high priority for economic development.
Economic Growth: Government activities guided by economic growth objectives, with public sector playing a significant role.
- Basic industries like iron and steel, petroleum, heavy engineering, machine tools, transport equipment, chemicals, drugs, and mining developed in the public sector.
- These enterprises failed to generate required reinvestible surplus.
Agricultural Development: Encouragement through new agricultural strategies.
- Increased use of fertilizers and irrigation facilities, provided at subsidized rates.
- Heavy subsidy on agricultural inputs and remunerative prices to farmers through procurement prices and minimum support prices.
Poverty Alleviation and Unemployment: Undertaking various programs like NREP, RLEGP, MGNREGS for wage employment, and IRDP, PMRY for self-employment.
- MGNREGS introduced in 2006-07 to provide 100 days of guaranteed wage employment to rural households.
Social Security: Introduction of social security measures during planning.
Food Security: Three food-based safety nets:
- Public distribution system (PDS) provides foodgrains at subsidized prices.
- Integrated child development services (ICDS).
- Mid-day meals program (MDM).
Export Promotion: Measures undertaken for export promotion.

Growth of Public Expenditure

Spectacular rise in public expenditure due to intensive and extensive government activities during the planning period.
Expenditure at Current Prices:
- 1950-51: ₹ 900 crores
- 1970-71: ₹ 7,843 crores
- 1990-91: ₹ 1,63,520 crores
- 2020-21: ₹ 65,23,916 crores (32.9% of GDP)
- 2021-22: ₹ 74,53,320 crores (around 31.7% of GDP)
Ratio of Public Expenditure to GDP:
- 1950-51: 9.1%
- 1960-61: 15.5%
- 1990-91: 28.7%
- Decline in the ratio after 1990-91 due to government efforts to check growth.
- 1996-97: 24.7%
- 1997-98: 25%
- Reversed trend: 27.0% in 2019-20, 32.9% in 2020-21 (due to COVID-19 expenditure).
India's ratio of public expenditure to GDP is now comparable to developed countries like the USA, Canada, the UK, France, and Germany.

Composition of Government Expenditure

Broadly classified under two heads: development expenditure and non-development expenditure.

Development Expenditure

Expansion in Development Activities:
- Ratio of development expenditure to total expenditure:
  - 1950-51: 36.2%
  - 1980-81: 64.6%
  - 1990-91: 59.8%
  - 2004-05: 51.2%
  - 2011-12: 58.7%
  - 2018-19: 60.6%
  - 2021-22: 49.1%
- Economic planning in India differs from socialist countries due to mixed economy approach i.e., coexistence of public and private sectors.
- State initiative restricted to sectors where the private sector is unable/indifferent to develop.
- High priority to infrastructure development.
- Development of roads, railways, canals, energy production creates conducive environment for economic development.
- Strategy effective for consumer goods industries.
- Following Mahalanobis strategy, high priority was given to large-scale basic industries.
- Development of iron and steel, heavy engineering, machine tools, and chemical industries in the public sector.
Increasing Expenditure on Subsidies:
- Explicit subsidies from the Union Budget increased significantly.
- ₹ 43,000 crores in 2002-03 to ₹ 2,62,304 crores in 2019-20.
- Subsidies peaked in 2012-13 at 2.59% of GDP, stood at 1.31% in 2019-20.
- In 2020-21, subsidies reached ₹ 7,58,165 crores (3.8% of GDP) due to COVID-19.
- Subsidies in 2021-22 were ₹ 5,03,907 crores (2.15% of GDP).
- ₹ 5,62,080 crore (2.06% of GDP in 2022-23).
- Major subsidies: food, fertilizers, and petroleum.
- Initial justification for subsidies, but vested interests developed.
- Government attempting to reduce fertilizer subsidy.
- Food subsidy aims to supply foodgrains to weaker sections, but benefits have not always reached the poorest in rural areas.
- Fertilizer subsidy largely appropriated by the fertilizer industry and large farmers.
- Export subsidies rewarded inefficient producers.
- Hidden subsidies exist in cheap higher education, free medical services, power supply to farmers, and irrigation facilities.
Expenditure on Social Services:
- In Western countries, expenditure on education and health is considered an investment in human capital.
- East Asian economies recognized the importance of universal education and health services.
- Government of India has initiated steps in education and health.
- Expenditure remains low in percentage terms compared to international standards.
  - Public expenditure on education in India in 2016 was 3.0% of GDP, while it was 6.0% in Brazil.
  - Public expenditure on health in India in 2019 was 3.0% of GDP.
Economic Growth Does Not Correspond to Increasing Development Expenditure:
- Economic growth has not risen to levels achieved in other less developed countries despite increasing development expenditure.
- Repeated economic stagnation raises doubts about resource allocation.
- Real per capita expenditure on agriculture and transport services has declined.
- Interest payments, subsidies, and compensation to government employees have increased, affecting economic growth.
- Canon of economy violated, public funds squandered, and physical targets seldom achieved.
- Corruption is institutionalized, affecting project growth rates.
- Large unutilized capacity exists in public enterprises due to inter-sectoral imbalance.

Non-Development Expenditure

The absolute amount of non-development expenditure has increased.
Since 1980-81, the ratio of non-development expenditure to total public expenditure has risen.
Sharp increase in non-developmental expenditure is not justified in a developing country with scarce resources.

Defence:
- Expenditure increased over the years.
- 1981-82: ₹ 3,844 crores
- 1990-91: ₹ 10,874 crores
- 2021-22: ₹ 2,28,559 crores
- 2022-23: ₹ 2,59,500 crores
- Justification debated, considering rapid changes in defence technology and belligerent neighbors.
Interest Payments:
- Considered unproductive.
- Expenditure increased considerably during the planning period.
- In 2022-23, interest payments were ₹ 9,40,651 crore (3.4% of GDP).
- Heavy burden on the national exchequer due to reliance on borrowing.
- Can be reduced through quick retirement of public debt.
- Mundle and Govind Rao suggest using proceeds from the sale of public sector equity.
- Government must cut down development expenditure or fresh recruitment of government staff.
- Expenditure Reforms Commission suggested that nearly 5% of manpower is redundant.
- Government must not allow debt growth to become explosive.
Tax Collection Charges:
- Expenditure has increased steadily.
- ₹ 1,973 crores in 1990-91
- ₹ 6,570 crores in 2000-01
- ₹ 30,032 crores in 2013-14
- Reasons: salary bills and complex taxation structure leading to large recruitment of staff.
- Simon Kuznets suggests disguised unemployment exists in tax departments.

Causes of the Rise in Public Expenditure

Population Growth:
- India faced population explosion from 1951 to 2011.
- Population increased from 36 crores in 1951 to more than 138 crores in 2020.
- Increased demand for services like police, education, health, and medical facilities.
Increase in GDP:
- Increase in GDP accompanied by increase in public expenditure.
- GDP increased nineteen times from 1950-51 to 2011-12 (2004-05 = 100 series).
- GDP at constant prices in 2011-12 (2011-12 = 100 series) was ₹ 87,36,329 crores, rising to ₹ 1,60,06,425 crores in 2022-23 (83.2% increase).
- Government expected to expand traditional activities and undertake new activities.
- Public expenditure rises at an increasing rate in response to a rise in per capita income in early stages of development.
- Stable ratio between public expenditure and national income obtained once the economy is fairly developed.
Urbanization:
- Percentage of urban population increased since Independence.
- 17.3% in 1951 to around 31.2% in 2011.
- Raises government expenditures on police, road and transport, water availability, electricity, and housing.
Defence:
- Necessity to shore up defenses due to hostile neighbors and internal disturbances.
- Expenditure increased from ₹ 3,844 crores in 1981-82 to ₹ 2,59,500 crores in 2022-23.
Expansion of Administrative Machinery:
- Retained colonial bureaucratic system.
- New departments set up, some criticized as unnecessary.
- Excess recruitment in government departments.
- Raja J. Chelliah suggests 20-25% surplus staff in government departments.
- Expenditure Reforms Commission found 42,200 surplus manpower in a staff of 8,65,000.
- Revision of pay scales and annual increments led to immense increase in expenditure on administration.
Development Projects:
- Heavy investment in development projects to transform the economy.
- Development of infrastructure and large-scale basic industries.
- Every new Plan has been bigger in size, increasing public expenditure.
Debt Finance:
- Necessary to accelerate development but carries the burden of interest payments.
- Considerable reliance on debt finance led to continuous growth in total outstanding debt.
- Interest payments increased.
- Interest payments were 1.8% of GDP in 1980-81, rose to 4.0% in 2004-05 and stood at 3.45% in 2022-23## Subsidies:
- Subsidies have increased steeply, contributing to rapid growth of public expenditure.
- Large class of publicly produced services (defence, administration, law and order) are pure public goods and cannot be priced.
- Other publicly provided services can be priced and cost recovered.
- Subsidies may be provided when externalities exist or for merit goods like primary education.
- In India, a huge volume of subsidies involved in delivery of almost all goods and services provided by the government.
- Recovery rates have declined, increasing the burden of subsidies.

Public Expenditure Management

Fiscal situation deteriorated in the 1980s, reaching crisis proportions by 1991-92 due to the growing burden of non-development expenditure.
Indicators of fiscal imbalance are revenue deficit and gross fiscal deficit.
- Revenue deficit: difference between revenue receipts and revenue expenditure.
- Fiscal deficit: total resource gap, excess of total government expenditure over government revenue and grants.

The Case for Public Expenditure Management

An important justification for expenditure management since 1991 was reducing the fiscal deficit.
Policymakers argued the fiscal deficit was a source of instability for the economy.
Arguments to cut down gross fiscal deficit: 7.55% of GDP during 1985-90, with a revenue deficit of 2.37% of GDP.
- Fiscal deficit can be inflationary or cause external deficits.
- Reduces private investment by reducing availability of investible resources and raising interest rates.
- Results in accumulation of public debt and increased future interest obligations.
The burden of fiscal deficit correction fell on public expenditure management as overall economic reform policy did not allow for discreet taxation policy.

Lowering Ratio of Public Expenditure to GDP

Public expenditure in absolute terms could not be reduced in an inflationary economy.
Government sought to curtail general expenditure.
Issues of allocative and technical efficiency in the design and implementation of public expenditure received little attention.
Extravagance was not curbed, while development expenditure was drastically curtailed.
The expenditure policy lacked both rationality and direction; the ratio of public expenditure to GDP was 28.6% in 2009-10 as in 1990-91.
From 1991-92, ratio registered a modest decline for seven years, falling to 25.0% in 1997-98.
The trend reversed, rising to 28.0% in 2000-01 and 32.9% in 2020-21 (fell to 30.2% of GDP in 2021-22).

Falling Capital Expenditure-GDP Ratio

Revenue expenditure-GDP ratio stagnated around 13%, but a steep reduction occurred in capital expenditure-GDP ratio.
From 1990-91 to 1996-97, revenue expenditure-GDP decreased, then steadily increased to 12.3% in 1999-2000.
Interest payments-GDP ratio steadily rose from 3.7% in 1990-91 to 4.5% in 1999-2000.
The capital expenditure-GDP ratio was 5.6% in 1990-91, declining to 2.5% in 1999-2000 and 1.7% in 2019-20.
Barring the most recent 3 years, fiscal imbalance has primarily affected capital expenditure.
Stagnant revenues and increasing subsidies & transfers have crowded out capital expenditures.
Political dynamics have made capital expenditure a residual.
Reducing expenditure on transport and infrastructure development has disrupted the growth process.
Reduced capital expenditure dampens private sector investment.

Curtailing Subsidies

Direct subsidies on food, fertilizer, and export accounted for 2.2% of GDP in 1990-91, declined to 1.3% in 1996-97, and fluctuated around that level.
Subsidies accounted for 1.4% of GDP in 2007-08 and 3.8% of GDP in 2020-21.
However, subsidies fell to 2.2% of GDP in 2021-22 and further to 2.1% of GDP in 2022-23.
Export subsidies were eliminated by 1992.
Food subsidies were cut through increases in prices of foodgrains issued through the public distribution system i.e., denied access
Accordingly, the government has started providing foodgrains to the people below poverty line at highly subsidized rates under TPDS (Targeted Public Distribution System).
Fertilizer subsidies, accruing to industry, were also cut, entailing rising prices for farmers and restricting agricultural growth.

Stubborn Interest Payments

Interest payments form the largest component of revenue expenditure and result from past borrowing.
Were sought to be reduced by reducing public debt, but performance has been dismal.
Interest payments as a proportion of GDP rose from 3.2% during 1985-90 to 4.1% during 1990-95 and reached 4.6% in 2000-01.
In 2021-22, they were 3.4% of GDP.
Interest payments consumed an estimated 51.5% of total tax receipts in 2020-21.
Require earnest management to reduce their claim on public revenues and impair the government's capacity to meet necessary expenditures.

APPENDIX I TO CHAPTER 51

RECALIBRATING SPEND

The government's commitment to rein in the fiscal deficit and limit borrowing from abroad was re-emphasised
A gross fiscal deficit of 5.1 per cent of gross domestic product (GDP) has been budgeted for in FY25
The tax-GDP ratio has also increased from 10.1 per cent in FY14 to 11.7 per cent in FY25
Restrained growth in revenue expenditure, coupled with the impetus provided to capital expenditure, signifies that a greater share of the borrowing is now directed towards financing capex.
the secular decline in the ratio of revenue expenditure to capital outlay indicates the government's efforts to improve the quality of expenditure
a recent research article published by the Reserve Bank of India does well to examine the linkages between economic growth and fiscal consolidation in the country i.e., the paper redefines capex and looks at developmental expenditure (DE) instead.
DE is broader in scope as it includes social and economic expenditure, covering allocations for health, education, skilling, digitisation, and climnate-risk mitigation.
As against capex, which is budgeted to account for 3.4 per cent of GDP in FY25, DE is set to be around 4.2 per cent in the same year.
a 1 per cent rise in real DE can have a cumulative multiplier impact that produces a 5 per cent rise in GDP over four years

APPENDIX II TO CHAPTER 51

ANIMAL SPIRITS REVIVAL: WHEN WILL PRIVATE CPEX ROAR AGAIN?

India's wait for a revival in private capital expenditure has proven inordinately long.
Corporate balance sheets are strong, as are those of banks. Further, inflation has eased, and should RBI feel assured of pinning it down at 4%
Private capex, such as the utilization of current production capacity in particular and 'animal spirits' in general, are still yet to take off.
Indian factories, by and large, are still some distance from.being stretched to their limits in fulfilling demand
A recent RBI survey estimated that only 74% of capacity was in use
Central capex at ₹ 11.1 trillion for 2024-25 can't be enlarged much.
To the extent uncertainty still haunts large private investment decisions, however, what the Indian economy needs is a revival of what Keynes called animal spirits.