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Similarities between Disinvestment and fiscal deficit

Synopsis: Selling of Public assets (Disinvestment) has similar macroeconomic results to fiscal deficit. Both increase wealth inequalities in the society and hence should be avoided.

Background
  • The government has set a target of 1.75 lakh crore rupees from the disinvestment of PSUs in the current financial year.
  • The only rationale shown by the government behind such a move is to generate additional resources for spending.
Basic Terms:

  • Fiscal Deficit: It is the difference between the total revenue of the government (excluding borrowings) and its total expenditure. A fiscal deficit situation occurs when the government’s expenditure exceeds its income.
  • Disinvestment: It simply means the withdrawal or reduction of investment.
Fiscal Strategy of selling Public Sector Undertakings:
  • Under disinvestment, equity (shares) of PSUs is offered for sale to the private sector.
  • However, the purchase of public assets crowds out private investment in other sectors.
    • It happens as the amount kept for investment in varied projects like road, rail, energy, etc. is used for the purchase of public assets. It reduces the pool and hence crowding out takes place. 

Moreover, there is not much difference between fiscal deficit and disinvestment.

Relationship between Disinvestment and Fiscal Deficit:
  • In Fiscal Deficit, the government issues bonds to the private sector for raising money. While in case of disinvestment, ownership of public assets is offered.
  • Both have similar macroeconomic consequences:
    • Enhancing private savings
    • Crowding out some private investments
    • Allowing the production of idle output and resources by increased government spending
    • Creating wealth inequalities
  • The only difference is the nature of the paper handed over to the private party. 
How does fiscal deficit increase wealth inequality?

Fiscal Deficit generates additional private savings. It enhances wealth inequality.

  • Firstly, the government expenditure financed by fiscal deficit generates additional demand in the economy. 
  • Secondly, this further increases output and incomes until additional savings generated out of such incomes match the fiscal deficit.
  • Thirdly, these savings are generally more in the case of the rich who have a higher propensity to save. 
  • Fourthly, these additional savings result in greater wealth creation for the rich and enhance wealth inequalities.
How selling of public assets increases wealth inequality?
  • The process of disinvestment involves the transfer of ownership of public assets to the private sector.
  • Wealth Inequality gets enhanced as:
    • Additional savings are created in the economy just like in the case of fiscal deficit, which enhances inequality. 
    • Further, the transfer usually happens at prices well below the capitalized value of earnings. This makes new owners more wealthy in the future and enhances inequalities in society.
      • Capitalized value refers to the current value of an asset, based on the total income expected to be realized over its economic life span.
Alternative of disinvestment for increasing spending:
  • The focus should be on tax-financed government expenditure. In this case, there would be no addition to private wealth, and hence no increase in wealth inequality.
  • In the current scenario government can take the following steps:
  1. It can impose a wealth tax that would help it extract a bigger chunk of private profits and doesn’t increase inequalities.
    • Elizabeth Warren had proposed the idea during her nomination for the American presidency and 18 billionaires supported this.
  2. Increase the GST rate on luxury goods with due consultation with states. Further it should be complemented with a proportional increase in government spending. The result would be an increase in employment and output in the economy without impacting post-tax profits in real terms.

Thus, the multiple benefits associated with PSUs like social empowerment (role in green revolution), protection against the dominance of multinational corporations, etc. cannot be ignored.

Even if we ignore these, the sale of public assets to finance government spending is undesirable and unnecessary on purely fiscal terms.

Source: The Indian Express 

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