Second, it is wrong to argue that large fiscal deficits necessarily lead to higher inflation. Inflation is caused by the excess of aggregate expenditure over aggregate income, which may come from public or private sectors, and is reflected in either inflation or current account deficits in the balance of payments. It is quite possible for a large public deficit to be entirely financed by a private sector savings surplus, as was the case in Italy for more than a decade, where fiscal deficits of as much as 9 per cent of GDP were met by positive private savings-investment balances of equal proportions. Similarly, there can be large balance of payments deficits or higher inflation in countries with low, zero or positive fiscal accounts, when the private sector spends more than it earns - this was the case in many Southeast Asian economies before the crisis, and is currently true of the United States economy.
 
Third, external vulnerability now has less to do with the observance of fiscal rectitude, and more to do with the degree of financial openness of the economy as well as a range of perceptions of international finance. Thus, countries can face external crisis and capital flight because of large current account deficits led by private profligacy in the context of trade and capital account liberalisation, or because other areas are suddenly seen as more profitable by financial investors, or even just because of geographical proximity to another country in crisis.
 
It is important to remember that in 1997, when the financial crisis engulfed Southeast Asia, among the two worst affected countries, Thailand had a government budget surplus of 3 per cent of GDP while South Korea had a smaller budget surplus of 1 per cent of GDP. Their current account deficits reflected not fiscal irresponsibility but excess private spending in the very liberalised environment desired by international finance. In another part of the world, Argentina has faced speculative attacks on its currency despite obsessive deficit control and even a fiscal responsibility law, simply because of geographical proximity and an open capital account, first during the Mexican crisis of 1995 and more recently during the Brazilian crisis of 1998-99.
 
This in turn means that the argument that fiscal rectitude is sufficient to enable low interest rates in a world of relatively open capital markets, is not one that can be sustained. In fact, while it is true that finance in general dislikes large fiscal deficits, it is quite prepared to tolerate them if they are associated with higher economic activity. Witness the high state of "investor confidence" in South Korea currently, even though the government deficit is now around 6 per cent of GDP, because the expansionary fiscal stance is the main reason behind the recovery in economic activity.
 
Also, since finance may respond negatively to other factors, as mentioned above, in periods of speculative capital outflow it becomes necessary to raise domestic interest rates to ward off further capital flight, whatever the condition of the public exchequer. In the internationally acclaimed models of Thailand and Argentina, despite more than "responsible" fiscal behaviour, interest rates had to be raised to historic highs in excess of 50 per cent during the periods of speculative attack on currencies, and real interest rates have remained quite high in these countries. Similarly, in sub-Saharan Africa, governments, which have been beaten into almost total fiscal submission by the combination of severe external dependence and strong conditionality, have seen no reduction in real interest rates as a result.
 
All this suggests that the axiomatic basis of the new proposed legislation on fiscal responsibility in India is flawed in the extreme. But what is more startling is that these questionable assumptions are then used to suggest a time-based framework of fiscal tightening which is so extreme and severe as to be absolutely breathtaking.
 
Consider the main operational provisions of the bill. It is proposed that the government should commit itself to taking "appropriate measures to eliminate the revenue deficit and fiscal deficit and build up adequate revenue surplus". In particular, the Central Government is required to meet the following extremely demanding criteria :
 
(1) to reduce the revenue deficit by an amount equivalent to one-half per cent or more of the estimated GDP at the end of each financial year beginning on 1 April 2001 ;
 
(2) to reduce the revenue deficit to nil within a period of 5 financial years beginning from 1 April 2001 and ending on 31 March 2006 ;
 
(3) to build up surplus amount of revenue and utilise such amount for discharging liabilities in excess of assets ;
 
(4) to reduce the fiscal deficit by an amount equivalent to one-half of one per cent or more of the estimated GDP at the end of each financial year, beginning 1 April 2001 ;
 
(5) to reduce the fiscal deficit for a financial year to not more than 2 per cent of the estimated GDP for that year, within a period of 5 years beginning from 1 April 2001 and ending on 31 March 2006.
 
(6) to ensure within a period of 10 financial years, beginning from 1 April 2001 and ending on 31 March 2011, that total liabilities (including external debt at current exchange rate) at the end of a financial year do no exceed 50 per cent of the estimated GDP for the year.
 
In fact, the only contingencies which would allow higher revenue or fiscal deficit are described as "the grounds of unforeseen demands on the finances of the Central Government due to national security or calamity". Presumably, economic recession, high poverty or low employment generation (for example) would not qualify as adequate reasons. In any case the actual reasons would have to be explained to both houses of Parliament as soon as possible after such "unforeseen" expenditures have been made.