An upward federal fiscal cliff
Noise often silences the real news. In the present context, the hype about the budget measures, or lack of them, the trade deals with the US and European Union, fall of rupee, and central bank’s status quo have forced us to neglect two issues. The first is the sixteenth Finance Commission Report, which is a barometer of how truly federal the economy is, and was tabled along with the outcome report just before the budget speech. Second, despite the praise for the economy from experts, and global institutions about fiscal responsibility and stability, most states find themselves perched on a steep fiscal cliff.
The danger, or an interesting aspect, is that this fiscal cliff is, in many ways, truly federal. In the past, states have complained about the neglect from the Centre. The south is being ignored, east is being ignored, or west is being pampered. But a recent World Bank report, which was used by the Finance Commission, reveals that despite the central claims of being fiscally responsible, many states are in a bad state. That implies that if they do not reform, and do it fast, they are staring at bankruptcy-like results in the future. The scale of the problem is truly federal because there are no regional disparities.
The so-called bad eggs, although they are not rotten yet, include Punjab, Tamil Nadu, Rajasthan, Bihar and, of course, West Bengal. These include the big and small states, seemingly-rich and well-to-do, and known poor ones. But these five states are the ones where fiscal responsibility seems to exist only on paper. Look at the numbers. More than 40 per cent of the state revenue of Punjab, including tax and non-tax receipts, is consumed by interest payments. There are others where the situation is the same. Even in Tamil Nadu, where one would expect a balanced situation in fiscal deficit and debt management.
But this is far from the truth. The reality is that Tamil Nadu has been a relatively rich, industrialised, and more prosperous state, and the World Bank report reveals that its tax and non-tax revenue was above INR 2,00,000 crore. But the problem is that the state paid INR 62,000 crore as interest payments on accumulated debt. Obviously, the problem is compounded for the poorer states like Bihar and West Bengal. The latter simply do not have the resources, tax revenues, and any other sources to manage their expenditures. The core issue is that the states, despite claims of being fiscally responsible, face a double-whammy.
The first is the limitation on what the Centre shares with the states. The Finance Commission’s recent recommendations mandate a sharing of revenue arrangement that is not much higher than the past ratios. In fact, the last time there was a massive increase in this revenue-share was perhaps in the first few years of the current and successive BJP-NDA regimes. Then, the share was increased from 32 per cent to 40 per cent, which was a substantial increase. The late finance minister, Arun Jaitley, constantly harped during his tenure in the previous decade that the Centre will transfer more money to the states so that the latter can take critical decisions about how to spend the money.
Obviously, after an initial start, nothing much changed. But when we talk of a double-whammy for the states, the bigger problem is about expenditures which do not, and cannot, generate resources, taxes, revenues, or incomes. Of course, this is about the freebies. Virtually every state, whether we consider Punjab or West Bengal, Tamil Nadu or Karnataka, Maharashtra or Madhya Pradesh, has launched freebies that later prove far more burdensome than the initial estimates. Consider the state of Karnataka. It spends upwards of INR 60,000 crore on welfare schemes. This leaves very little money for investments on highways, rural roads, schools, healthcare, and education.
In his case, the ruling Congress Party made five grand promises prior to the 2023 assembly elections, and felt obliged to fulfil them. Congress is not the only villain. The BJP or NDA-allies have done the same in Maharashtra and Madhya Pradesh, and these states find themselves in a similar bind. The ruling regimes made grandiloquent promises related to women’s welfare schemes such as Ladki-Behen Yojana, or Ladli-Behen one, which are now a huge drain on the states’ exchequer. None of these schemes generate present or future revenues. An even larger issue is that they will not lead to higher productivity, or better efficiency, of the workforce, which is crucial for economic growth.
In addition, although the schemes are women-centric, and female-focused, they are unlikely to lead to increased female participation in the labor force. Free bus rides for women across the states may be politically attractive, does it enable or nudge more women to work? Especially in the places, regions, districts, and areas where it matters. In some states, there is a cradle-to-death help that women receive, like free gold during marriage, sops when they give birth to a child, and so on, but no one evaluates how it makes them empowered, either financially, socially, emotionally, or physically.
Let us get back to Punja to stare at hardcore numbers, rather than deal with subjective issues like women empowerment, future productivity, and estimated growth. While Punjab spends more than 40 per cent of its annual revenue on interest payments, the figure for the other states, although lower at 30 per cent, is as precarious. Forget about the welfare schemes, and freebies, the states cannot spend on genuine needs like infrastructure. Most experts feel that this fiscal and financial federal-state situation can explode in the faces of the policy-makers quite soon. At present, the default mode is to sweep them under the central carpet, since the Centre’s fiscal deficit is in control. But for how long?
According to the World Bank, at least six of the large 20 states are “vulnerable to external shocks due to high debt, and committed expenditure (salaries, pensions, and interest).” Four of them face “high budgetary rigidity, restricting their spending capacity for development.” The Centre incenivises the states to hike capital expenditure through the special assistance means. But this is more about politics rather than economics, and the help ends up being controversial. Some states claim they were short-changed, and others get huge help. The non-BJP ones constantly complain about the lack of resources. The BJP-ruled ones are awash with money, and have more to waste on freebies.
The author has worked for leading media houses, authored two books, and is now Executive Director, C Voter Foundation; views are personal
