Flexibility Under the FRBM Act

• 30 Mar 2020

Why in News

Recently, the State government of Kerala has sought flexibility under the Fiscal Responsibility and Budget Management (FRBM) Act.

• This is to ensure that fiscal stimulus in the wake of COVID-19 does not get deterred by FRBM considerations.

Reasons for Seeking Flexibility

• According to Kerala’s current fiscal position, Kerala can borrow about ₹25,000 crore during the financial year 2020-21.
• Kerala has announced an emergency relief package of worth Rs. 20,000 crore to mitigate the impact on livelihoods and overall economic activity from the sweeping steps taken to battle the COVID-19 pandemic, including the latest 21-day nationwide lockdown.
• The State has proposed to borrow as much as ₹12,500 crore from the market at the start of the financial year (April -March).
• The government is concerned that the stringent borrowing cap under the fiscal responsibility laws should not constrain its borrowing and spending ability over the remaining 11 months.
  
  • During the 11 months, the government will have to take not only COVID-19 mitigation measures but would also have to meet other expenditure for routine affairs related to the running of the State’s socio-economic programmes as well as the post pandemic recovery.

FRBM Act

• It was enacted in August 2003.
• It aims to make the Central government responsible for ensuring inter-generational equity in fiscal management and long-term macro-economic stability.
• The Act envisages the setting of limits on the Central government’s debt and deficits.
  
  • It limited the fiscal deficit to 3% of the GDP.
• To ensure that the States too are financially prudent, the 12th Finance Commission’s recommendations in 2004 linked debt relief to States with their enactment of similar laws.
  
  • The States have since enacted their own respective Financial Responsibility Legislation, which sets the same 3% of Gross State Domestic Product (GSDP) cap on their annual budget deficits.
• It also mandates greater transparency in fiscal operations of the Central government and the conduct of fiscal policy in a medium-term framework.
  
  • The Budget of the Union government includes a Medium Term Fiscal Policy Statement that specifies the annual revenue and fiscal deficit goals over a three-year horizon.
• The rules for implementing the Act were notified in July 2004. The rules were amended in 2018, and most recently to the setting of a target of 3.1% for March 2023.
• The NK Singh committee (set up in 2016) recommended that the government should target a fiscal deficit of 3% of the GDP in years up to March 31, 2020 cut it to 2.8% in 2020-21 and to 2.5% by 2023.

Relaxation under the FRBM Act

• Escape Clause:
  
  • Under Section 4(2) of the Act, the Centre can exceed the annual fiscal deficit target citing certain grounds.
  • The grounds include
    
    • National security, war
    • National calamity
    • Collapse of agriculture
    • Structural reforms
    • Decline in real output growth of a quarter by at least three percentage points below the average of the previous four quarters.
• The lockdown could cause severe contraction in economic output and the COVID-19 pandemic could be considered as a national calamity.
• Also, the government has already made the use of escape clause this year.

Instances of the FRBM Norms been Relaxed in the Past

• During the Budget 2020-21 presentation:
  
  • The reductions in corporate tax were cited as structural reforms that triggered the escape clause. This implies that this year the government has already made use of the escape clause
  • This enabled the government to adjust the fiscal deficit target for 2019-20 to 3.8%, from the budgeted 3.3%.
  • It was also cited that the impact of the reforms would also necessitate a reset for 2020-21: from the earlier deficit target of 3% to 3.5%.
• During the global financial crisis in 2008-09:
  
  • The Centre resorted to a focused fiscal stimulus: tax relief to boost demand and increased expenditure on public projects to create employment and public assets, to counter the fallout of the global slowdown.
  • This led to the fiscal deficit climbing to 6.2%, from a budgeted goal of 2.7%.
  • Simultaneously, the deficit goals for the States too were relaxed to 3.5% of Gross State Domestic Product(GSDP) for 2008-09 and 4% of GSDP for fiscal 2009-10.

Source: TH