FINANCE AND FOREIGN EXCHANGE
IT is proposed in this chapter to indicate the lines along which the financial resources needed for the plan are to be raised and to deal with some of the important policy issues that arise in this connec- tion. The problem of mobilising resources has to be viewed in the light of the requirements both of the public and of the private sector, as they both draw upon the same pool of savings, and care has to be taken to ensure an adequacy not only of domestic Finance but also of foreign exchange.
2. Basically, the issue is whether and how domestic savings to the requisite extent can be mobilised in the aggregate. This depends on a judgement not only as to the desirability of limiting consumption beyond a point but also of the suitability, in the given economic and social set-up, of the means or techniques to be used for the purpose. The latter is an important consideration in shaping taxation and other economic policies in a democratic state, and especially in the context of the private sector functioning side by side with the public sector. The point to emphasize is that given the decision to invest a certain quantum of resources, the necessary savings have to be found, and clearly the bulk of them have to be found from within the economy. It has also to be borne in mind that foreign exchange resources present a problem to which special attention has to be given. A country which starts on industrialisation has necessarily to import the required machinery and equipment from abroad in the early stages, and it has, therefore, to conserve its foreign exchange resources to the utmost. The fact that supplemental resources from abroad on a considerable scale would still be necessary even after the utmost economy in the matter of imports highlights the need for an active export promotion policy.
FINANCE FOR THE PUBLIC SECTOR 3. The scheme of financing envisaged for seeing through the developmental programme of the Central and State Governments aggregating to Rs. 4,800 crores is as follows:
(Rs. crores)
1. Surplus from current revenues 800
(a) at existing (1955-56) rates of taxation 350
(b) additional taxation 450
2. Borrowings from the public 1200
(a) market loans 700
(b) small savings 500
3. Other budgetary sources 400
(a) Railways' contribution to the development programme 150
(b) Provident funds and other deposit heads 250
4. Resources to be raised externally 800
5. Deficit financing 1200
6. Gap-to be covered by additional measures to raise
domestic resources 400
TOTAL 4800
The budgetary resources that can be raised by the Central and State Governments through taxation, borrowing and other receipts amount to Rs. 2,400 crores. A further Rs. 1,200 crores, it is suggested, can be raised through deficit financing. Adding to this Rs. 800 crores by way of resources from abroad, the total of resources for the implementation of the programmes in the public sector works out at Rs. 4,400 crores. This leaves a gap of Rs. 400 crores, the means of raising which will have to be decided upon in detail later. It is recognised that the gap has ultimately to be filled by raising additional domestic resources, and given the limits of deficit financing to which reference is made later, as also the fact that the scheme of financing as outlined here already relies heavily on borrow- ing, the only possible source that can be drawn upon for meeting this gap is taxation and, to the extent possible, profits of public enterprises.
4. The estimate of Rs. 350 crores as the balance available from current revenues at existing rates for financing expenditures under the plan has been arrived at after a detailed examination of the total revenue receipts of the Central and State Governments. In working out this estimate, provision has been made for only minimum increases in expenditure under non-development heads such as defence and administration. The maintenance expenditure on social services and similar developmental items at the level reached by the end of 1955-56 has also been
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FINANCE AND FOREIGN EXCHANGE
allowed for, as expenditure of this type is not included in the plan. The total receipts of the Central and State Governments over the five- year period are estimated at Rs. 5,000 crores at the rates of taxation prevalent in 1955-56. Of this, the non-developmental expenditures mentioned above and the maintenance expenditure under developmental heads will take up about Rs. 4,650 crores, which leaves a balance of Rs. 350 crores available for meeting plan expenditures. It is necessary to stress the point that a careful watch on non- developmental expenditure will be necessary in order to obtain for the plan the estimated amount of Rs.350 crores from revenues at existing rates. Should these go, up, or should there be any significant loss of revenues on account of the adoption of social measures such as prohibition, there will have to be a corresponding effort simultaneously to raise further resources, if the contribution of current revenues to the plan is not to go down.
5. The target for additional taxation of Rs. 450 crores mentioned above represents the minimum that has to be attempted. In arriving at this figure the recommendations of the Taxation Enquiry Commission have been taken into account, and it has been assumed that steps will be taken to implement these as early as possible after the commencement of the plan. The State Governments are expected to raise between them a total of Rs. 22S crores, and the Centre is to raise a like amount. On this basis, the contribution of current revenues to the plan amounts to Rs. 800 crores which is only one sixth of the total resources required. This contribution,as we indicate later,is,in our view, inadequate in relation to needs and a further tax effort will be called for, if the plan is to be implemented fully and inflationary pressures are to be kept down to the minimum.
6. The response to government borrowing programmes has been encouraging in recent years, and the target of Rs. 115 crores set in the first plan has been exceeded by about Rs. 65 crores. The improvement in the demand for government loans has occurred mainly in the last two years, the net off take of new loans in these years being about Rs. 95 crores a year. During the period, the holdings of rupee securities (other than treasury bills) by the Reserve Bank have shown a decline of about Rs. 70 crores, which indicates that the net absorption of securities by the market (including Commercial banks) has been of the order of Rs. 250 crores. If account is taken of the sales of securities held in reserve by the Central and State Governments, the net absorption of securities by the market would in fact be larger.
7. The estimate of Rs. 700 crores of borrowing from the public over the second plan period-an average of Rs. 140 crores a year-thus assumes that the annual receipts from this source will, on an average, be about 40 per cent. higher than they have been of late. While this is not in itself an over-ambitious target it has to be borne in mind that the total amount of loans maturing in the course of the second plan is Rs. 430 crores. Gross borrowings over the period will therefore, have to be of the order of Rs. 1,130 crores. Judged in this light, and especially in the context of a brisk demand for funds in the private sector, the task of mobilising net private savings amounting to Rs. 700 crores in this way for purposes of public investment can not be regarded as easy of fulfilment. In this con- nection, the possibility of extending the scope of social security schemes must be fully explored. These schemes are a means of giving a fair deal to employees, but they serve as a valuable source of additional savings. The net accumulations in provident funds and similar schemes are already an important source of finance for public loans, and it is to be expected that their importance will grow in the coming years. The nationalisation of life insurance, which is intended to foster the insurance habit, should also prove a growing source of demand for public loans.
8. The collections under small savings have been placed at Rs. 500 crores over the second plan period. The receipts under this head have gone up steadily in the last few years-from Rs. 33 crores in 1950-51 to Rs.65 crores in 1955-56. At target of Rs.100 crores a year on an average over the second plan period will require a further substantial stepping up of these collections. The small savings drive will have to be intensified for the purpose, and a countrywide cam- paign reaching down to every family and with sufficient follow up right upto the lowest level is called for. We suggest in this connection that a close examination be made of the strata reached so far by the small savings movement both in urban and in rural areas, and a concerted effort undertaken by State Governments and by non- official agencies to carry the message of the plan all over the country and to bring into the small savings movement all the areas and classes that have so far not been covered. The aim should be to induce every citizen of the country to make a contribution, however small, to the task of transforming the economy.
9. The contribution of the railways to the financing of their plan of Rs. 900 crores has been placed at Rs. 150 crores. In the first plan period the railways contributed Rs. 115 crores towards the estimated outlay on the railway plan of Rs. 267 crores. In the second plan period the railways' own contribution to their plan is a much smaller proportion of the total. It is understandable and indeed inevitable-that the railways should draw upon the general exchequer to a significant extent at a time when the new developments envisaged in the economy require them to shoulder large additional responsibilities in a short space of time. The railways have also to make in the
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SECOND FIVE YEAR PLAN
plan period a contribution of Rs. 225 crores for current depreciation, which has not been included in the plan. Nevertheless, a contribution of Rs. 150 crores by the railways for their plan can only be regarded as the minimum they must achieve. We would like to reiterate the point that the railways, like all developing enterprises, whether public or private, should endeavour to provide a sizeable part of their needs for expansion from their own resources. In the period of the second plan a considerable expansion in railway traffic is anticipated. Although part of this will be of a type which does not raise earnings proportionately, railway earnings as a whole will go up. Even after allowing for some unavoidable increases in working expenses, it would appear that part of the contribution from the railways should be forthcoming at existing rates in response to the growth of demand. Part will have to be found by selective adjustments in rates and freights. Considering the strain on the financial resources of Government which the second plan involves, we would in fact recommend that the railways exert their utmost to raise their contribution above the level of Rs. 150 crores which has been indicated for them.
10. The estimate of Rs. 250 crores under provident funds and other deposit heads is a projection of the current trends of receipts under these heads. The net accumulations of the Centre by way of provident funds are estimated at Rs. 17 crores for 1955-56 and for the States the corresponding receipts in 1955-56 work out at Rs. 6.6 crores. As against this total of Rs. 23.6 crores it is reasonable to assume receipts amounting to Rs. 150 crores under this head for the second plan period. The remaining Rs. 100 crores represents recoveries of loans, advances made by the Centre and the States and miscellaneous capital receipts.
11. The total of resources mentioned so far amounts to Rs 2400 crores. The problem is to find another Rs. 2400 crores. Some 50 per cent of this, that is, Rs. 1200 crores can at the outside be raised through deficit financing. The plan takes credit for Rs. 800 crores of external resources. In the first plan period, the utilisation of foreign loans and grants amounted to Rs. 40 crores a year. An average of Rs.160 crores a year proposed in the scheme of financing presented above thus represents a large increase in the inflow of resources from abroad.
12. It is obvious that the second five year plan will strain the financial resources of the country. A measure of strain is implicit in any development plan, for, by definition, a plan is an attempt to raise the rate of investment above what it would otherwise have been. It follows that correspondingly larger effort is necessary to secure the resources needed. It is from this point of view and in the light of the continuing requirements of the economy over a number of years that the task of mobilising resources has to be approached. Domestic savings have,to be stepped up continuously and progressively in order to secure the objective of rapidly rising investment and national income.
SAVINGS IN RELATION TO PUBLIC INVESTMENT 13. The problem of financing the development programmes in the public sector may be looked at in another way. Of the total outlay of Rs. 4800 crores over the five year period, approximately Rs. 1000 crores represents expenditure of a current nature for increasing the scale of developmental activities under heads like education, health, scientific research, national extension and the like. Such expenditure does not result directly in the creation of productive assets and is, by 'convention, regarded as non-investment expenditure. Expenditure of this character has to be met from current resources. The investment component of the plan aggregating to Rs. 4800 crores is Rs. 3800 crores and this could be financed through borrowing. In a developing economy, in which expenditures on capital formation are growing rapidly, it would, in fact be desirable to finance a part of them from the surpluses obtained by taxation. This principle was stressed in the report on the first plan, and it needs stressing again.
14. In the scheme of financing envisaged for the plan, surplus from current revenues for financing the plan amounts to only Rs. 800 crores as against the requirements of Rs. 1000 crores by way of current expenditures. The contribution of the railways amounting to Rs. 150 crores must, in addition, be regarded as a contribution from current earnings. This means that the total current revenues available for the plan amount to Rs. 950 crores as against the estimated current outlay of Rs. 1000 crores. There is thus no public saving available for financing the investment outlay of Rs. 3800 crores; there is, in fact, a dissaving of Rs. 50 crores. In other words, the entire capital formation of Rs. 3800 crores-and a little more-will have to be financed by a draft on private savings. Allowing for Rs.800 crores of external resources as a separate category since it represents savings from abroad, and reckoning in the proposed drawing down of accumulated sterling balances by Rs. 200 crores, the amount of current private savings within the economy to be channelled into public investment would work out at Rs. 2850 crores. Assuming further that the uncovered gap of Rs. 400 crores will ultimately be met from public savings, the transfer to the public sector of
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FINANCE AND FOREIGN EXCHANGE
private savings will have to be of the order of Rs. 2450 crores.
15. Would it be reasonable to assume that private savings of the order of Rs. 2450 crores would become available to the public exchequer? In this context, it will be seen, the distinction between market borrowings, small saving and deficit financing is of minor importance. All these are devices for diverting private savings, either voluntary or forced through price rises, to the public exchequer. The manner in which-and the extent to which-private savings get transferred to the public sector depends essentially upon the willingness of the public to hold their assets in different forms: cash, negotiable government bonds and small savings certificates, or deposits. So long as the total savings transferred are adequate, it is a matter of comparative indifference whether they take the form of subscriptions to loans or of small savings or are held in the form of currency created by the State. The first essential point then, is whether private savings can be expected to be larger than the requirements for private investment by the amount that is needed by the State. Sufficiency of private savings in this sense can be postulated only if the necessary overall constraints on consumption are operative. In other words, the smaller the proportion of public savings available directly to the state in the form of surplus tax receipts or profits of public enterprises, the greater is the need for other measures or techniques for keeping down consumption within the desired limit.
16. If measures for increasing the overall rate of savings in the economy to the desired extent are not taken, any attempt on the part of the State to appropriate for itself resources on the scale envisaged here will inevitably lead to inflationary pressures-for these latter are only a symptom of the shortage of savings in relation to the competing claims from the different sectors of the economy. It must be emphasised in this context that the control of inflationary pressures and the maintenance of public confidence in the stability of the currency are prime requisites of successful policy for mobilising savings. The contrast between the experience of the earlier and later years of the first plan in the matter of response to government loans is sufficient indication of the fact that public loans and small savings succeed best in an atmosphere of financial stability when the avenues for speculative investment are few and the outlook as to the value of money is considered favourable.
DEFICIT FINANCING 17. This brings us to the question of the scope and limits of deficit Financing. In the first plan report, deficit financing was defined as Government spending in excess of Government receipts in the shape of taxes, earnings from state enterprises, loans from the public, deposits and funds and other miscellaneous sources. This definition is based on two underlying principles. Firstly,it stresses the fact that a deficit must be judged not merely in terms of the revenue account but must cover all those transactions on revenue as well as on capital account and of both the Centre and the States. Secondly, in defining what type of financing constitutes deficit financing, the criterion should, by and large, be whether or not the transaction in question tends to increase money supply. The first of these two principles is clearly unexceptionable. The second raises the question whether it is possible to infer directly and in any precise way the impact of a particular type of budgetary operation on monetary circulation merely in terms of the type of operation Withdrawals from cash balances and increases in floating debt normally tend to increase money supply and are as such recognised as part of deficit financing. But, in regard to the latter, it could be asked if all short-term borrowing necessarily leads to an increase in money supply, or whether, one ought not to distinguish between short-term borrowing from the central bank, from the commercial banks and from the public at large. There is, in principle, a case for such distinctions--both in the case of short-term and long-term borrowing by Government. In so far as government expenditure is financed by central bank credit, there is a direct increase in currency in cir- culation. Purchase of government securities by commercial banks is also not on par with the purchase of these securities by the public directly. While the monetary impact, of government's borrowings will differ according to type of subscriber, it would clearly be impracticable to record government's borrowing operations on this basis. Nor does the ownership of public deeply. remain with the same persons or institutions that bought it to begin with. This is an area in which fiscal policy of government and the monetary policy of the central bank get intermingled and it is difficult to isolate the impact of one from that of the other. The only practical course is to adopt a convenient Convention which under prevailing practices gives as near an approximation to the purpose in hand as possible. In India,where the normal practice is not to rely on the central bank for subscription to new issues of long-term securities and where short- term debt of the government is largely held by the central bank, a deficit measured in terms of withdrawals of cash balances and net increases in floating debt gives on the whole, a reasonably reliable indication of the impact of the budget on money supply. We should, however, emphasize the point that there is no substitute for a close analysis, in a given context, of all relevant budgetary, monetary and foreign exchange transactions.