Model Answer
0 min readIntroduction
The Fiscal Responsibility and Budget Management (FRBM) Act, 2003, was enacted by the Government of India to ensure macroeconomic stability and fiscal discipline. It aimed to reduce the fiscal deficit, enhance transparency in public finances, and manage public debt. The Act was a response to the growing fiscal imbalances in the Indian economy and the need for a rule-based fiscal policy framework. Recently, the FRBM Act was amended in 2018 to align it with a flexible inflation targeting regime and provide for a fiscal deficit target range rather than a fixed target. This question requires a detailed examination of the Act’s core features and the criticisms it has faced over the years.
Salient Features of the FRBM Act, 2003
The FRBM Act, 2003, laid down the foundation for responsible fiscal management in India. Key features include:
- Fiscal Deficit Targets: The Act initially mandated the government to reduce the fiscal deficit to 3% of GDP by 2008-09 and revenue deficit to 2% of GDP.
- Debt Targets: It aimed to reduce the total public debt to 50% of GDP within a period of 10 years.
- Transparency and Accountability: The Act emphasized transparency in fiscal operations through the publication of Fiscal Policy Statement, Budget Implementation Report, and Macroeconomic Framework Statement.
- Medium-Term Fiscal Targets: The Act required the government to set medium-term fiscal targets and adhere to them.
- Exception Clauses: The Act allowed deviations from the fiscal targets under exceptional circumstances, such as national security, economic slowdown, or natural disasters.
- Fiscal Rules Committee: The Act provided for the establishment of a Fiscal Rules Committee to oversee the implementation of the Act.
Amendments to the FRBM Act (2018)
The FRBM Act was amended in 2018 to introduce greater flexibility and align it with the evolving economic landscape. Key changes included:
- Fiscal Deficit Range: The amendment replaced the fixed fiscal deficit target with a range, allowing the government more flexibility in managing its finances.
- Inflation Targeting: The amendment formally adopted inflation targeting as the primary objective of monetary policy, with fiscal policy playing a supportive role.
- Debt Management: The amendment emphasized the importance of sustainable debt management and allowed the government to borrow to finance capital expenditure.
- Escape Clause: The amendment broadened the scope of the escape clause, allowing deviations from the fiscal targets under a wider range of circumstances.
Criticisms Labelled Against the FRBM Act
Despite its noble intentions, the FRBM Act has faced several criticisms:
- Pro-Cyclicality: Critics argue that the Act’s rigid fiscal targets can be pro-cyclical, exacerbating economic downturns. During periods of economic slowdown, adhering to strict fiscal targets can lead to contractionary fiscal policies, further dampening economic activity.
- Lack of Flexibility: The initial fixed targets were considered too rigid and did not allow for sufficient flexibility to respond to unforeseen economic shocks. The 2018 amendment addressed this to some extent, but concerns remain.
- Focus on Fiscal Deficit over Debt: Some economists argue that the Act places too much emphasis on reducing the fiscal deficit and not enough on managing the overall level of public debt.
- Implementation Challenges: The Act’s implementation has been hampered by political considerations and the tendency of governments to prioritize short-term political gains over long-term fiscal sustainability.
- Limited Scope: The Act primarily focuses on the central government and does not adequately address the fiscal responsibilities of state governments.
- Impact on Social Sector Spending: Concerns have been raised that the focus on fiscal consolidation may lead to cuts in essential social sector spending, impacting vulnerable sections of society.
Comparison with other Countries
| Country | Fiscal Rules | Flexibility |
|---|---|---|
| Germany | Debt Brake (Constitutional Limit on Structural Deficit) | Limited, with exceptions for severe economic crises |
| United Kingdom | Fiscal Rules (Target for Debt-to-GDP ratio) | Moderate, with adjustments based on economic conditions |
| United States | No formal fiscal rules | High, subject to political considerations |
| India | FRBM Act (Fiscal Deficit Range) | Increased with 2018 amendment, but still subject to debate |
Conclusion
The FRBM Act has been a significant step towards establishing a rule-based fiscal policy framework in India. While the 2018 amendments have addressed some of the earlier criticisms by introducing greater flexibility, challenges remain in ensuring its effective implementation and achieving long-term fiscal sustainability. A balanced approach that prioritizes both fiscal consolidation and economic growth, along with greater coordination between monetary and fiscal policies, is crucial for maximizing the benefits of the Act. Further reforms, including strengthening the role of independent fiscal institutions and improving fiscal transparency at the state level, are also necessary.
Answer Length
This is a comprehensive model answer for learning purposes and may exceed the word limit. In the exam, always adhere to the prescribed word count.