Act now: Arun Jaitley needs to use his lucky streak to push through reforms

 

Fostering Public Leadership - World Economic Forum - India Economic Summit 2010

Napoleon Bonaparte once said “I know he’s a good general, but is he lucky?”
Luck is an essential part of politics and lucky governments tend to do better than plain and simple skilful governments. As ex cricketer turned writer Ed Smith writes in
Luck—A Fresh Look At Fortune “Academic research supports the idea that voters often can’t tell the difference between lucky governments and skilful ones.” In fact, research carried out by Australian economist Andrew Leigh suggests that “it is more important to be a lucky government than an effective government”. Leigh studied nearly 268 elections between 1978 and 1999.
As Smith writes regarding this study “A government’s average rate of re-election is 57 per cent…Even superb economic management, outpacing world growth by 1 percentage point, only raises the Prime Minister or President’s likelihood of re-election from 57 per cent to 60 per cent. An economically competent government gets an electoral boost of 3 per cent; a lucky one gets a leg up of 7 per cent [i.e.]… the government’s re-election rate jumps to a 64 per cent likelihood.”
Hence, if a government has “luck” going for it, it is important that it does not throw it away and takes some decisions that help it over the long term.
Narendra Modi took over as the Prime Minister of India on May 26, 2014. Things were looking difficult on the economic front and a poor monsoon was being predicted.
The fiscal deficit of the Indian government as on May 31, 2014, stood at Rs 2,40,837 crore. This meant that during the first two months of the financial year (April 2014 to March 2015), the fiscal deficit had already reached 45.6% of the annual target. By June 30, 2014, the fiscal deficit for the first three months of the financial year had reached 56.1% of the annual target. Fiscal deficit is the difference between what a government earns and what it spends.
Typically the income of the government is back loaded, given that its earnings are the highest during the last three months of the financial year. But a large part of the expenditure of the government is more or less spread out through the financial year. Given this, the fiscal deficit typically tends to be high during the first few months of the year.
Nevertheless, even after taking this factor into account, a fiscal deficit of 56.1% of the annual target during the first three months of the year was a very high number. During the last financial year the number had stood at 48.4%. This was largely a reflection of the fiscal mess that the Congress led UPA government had left the country in.
Over and above this, the initial monsoon numbers were not very encouraging. The India Meteorological Department(IMD) in a press release dated July 11, 2014, pointed out that the“rainfall activity was deficient/scanty over the country as a whole” for the period between July 3 and July 9, 2014. This deficiency of rainfall was at 41% of the long period average.” This delay in rainfall had led to a 51% annual decline in the sowing of kharif crops.
These two factors which could have undermined the performance of the new Modi government greatly, have changed for the good in the recent past.
One of the major reasons for a high fiscal deficit has been the fact that oil marketing companies have been incurring huge “under-recoveries” on the sale of diesel, cooking gas and kerosene. The government in turn has had to compensate the OMCs for these “under-recoveries”. This pushed up the government expenditure and hence, the fiscal deficit.
The good news is that oil prices have been falling.
The international crude oil price of Indian Basket of oil as computed by Petroleum Planning and Analysis Cell (PPAC) fell to US$ 99.94 per barrel on 19.08.2014. Two months earlier on June 19, the price of the Indian basket of oil had touched $111.94 per barrel.
This fall in oil prices has ensured that
the under-recoveries of the OMCs for the financial year 2014-15 are projected to be Rs 91,665 crore while the figure was Rs 1,39,869 crore in the 2013-14. If this trend continues the government is likely to incur a lower expenditure for compensating the OMCs for their under-recoveries. And this will also have an impact on the fiscal deficit.
The government has also been lucky on the monsoon front. As the IMD said in a release dated August 15, 2014, “For the country as a whole, cumulative rainfall during this year’s monsoon has so far upto 13 August been 18% below the Long Period Average (LPA).” This is way lower than the deficiency in early July. A bad monsoon could have created several economic challenges for the government. Thankfully, the scenario did not turn out to be as bad it was initially expected to be. Hence, it is safe to conclude that the Modi government has indeed been very lucky on the economic front during its first 90 days.
Given this, the government should use this lucky streak to push in some reform on the pricing of petroleum products. With oil prices falling, this would be a good time to decontrol diesel prices. Over and above this , this would be a good time to limit subsidies on kerosene and cooking gas as well.
As has been suggested here earlier, this might be a good time to start raising cooking gas prices by Rs 10 per cylinder every month, in order to eliminate the subsidy on it, over a period of time.
What might further work for the Modi government is the fact that oil prices might continue to fall in the years to come. As Crisil Research points out in a report titled
Falling crude, LNG, coal prices huge positive for India dated August 2014 “Over the next five years, we expect global oil demand to increase by 4-4.5 m
illion barrels per day (mbpd).
However, crude oil supply is expected to increase by 8-10 mbpd. This, we believe, will bring down prices from current levels.”
This should help the government control its fiscal deficit. If the government is able to lower its fiscal deficit, it will have to borrow less and that will eventually lead to lower interest rates. If the government borrows less, there will be more money to lend to others. At lower interest rates consumers are more likely to borrow and spend. This will have a positive impact on economic growth.
The Modi government has luck going for it right now, but this may or may not last. Hence, it is important that it makes the best of it, and pushes in some decisions which will work well for the economy in the long run.

The article originally appeared on www.Firstbiz.com on August 22, 2014 
(Vivek Kaul is the author of the Easy Money trilogy. He tweets @kaul_vivek)