Driving up liabilities

While the Union Budget is extensively analysed after it is presented, examination of state government budgets tends to be less visible. This is in spite of the fact that state government decisions about expenditure and revenue are no less consequential for the general government deficit and the overall fiscal space. The recent trends have been clear. State governments till 2017-18 were broadly increasing their deficits as a percentage of gross domestic product (GDP), while the Union was reducing its corresponding ratio as required by the announced path of fiscal consolidation. However, an analysis of the state budgets presented for 2018-19 reveals that several smaller states have sought to reduce their deficits in terms of current rupees. Bihar has been an outstanding performer, reducing its deficit from Rs 35,000 crore to Rs 11,200 crore. The exceptions, however, are consequential. Uttar Pradesh, for example, has increased its deficit by Rs 3,000 crore to Rs 44,000 crore. Tamil Nadu has increased its deficit by Rs 3,300 crore to Rs 44,500 crore, and West Bengal by almost Rs 6,000 crore to Rs 29,700 crore.

It is clear that populist and electoral pressures underlie this trend. West Bengal, for example, although claiming to have created almost a million jobs, has also announced a Rs 1-lakh giveaway to 50,000 jobless young people “to promote self-employment”. Multiple states have announced transfers to farmers. West Bengal has promised a grant of Rs 5,000 to those with one acre of land, as has Jharkhand. Odisha is similarly transferring Rs 5,000 to 1.2 million farmers’ bank accounts and has also promised Rs 12,500 to landless labourers. Telangana has promised Rs 10,000 per acre per year. Other forms of rural assistance are also being tried. Andhra Pradesh is spending Rs 5,000 crore to pay for farm inputs on behalf of farmers and has also raised unemployment allowance. Congress-ruled Karnataka and Chhattisgarh have to pay for loan waivers, while BJP-ruled Uttar Pradesh has to pay for cow shelters and Assam has promised 10 gram of gold to brides. The Sarbananda Sonowal government has also promised Rs 50,000 to 2,000 “personalities from the world of sports and art” in an attempt to shore up its popularity with opinion-makers in the state ahead of the Lok Sabha elections. 

The Finance Commission’s stringent rules on deficit financing for states have meant that such spending has become more complex to finance. Although states have striven to keep their revenue deficits near zero and their fiscal deficits at 3 per cent of state GDP, there are other financing options available. As a consequence, even states that are reducing their deficits have seen an increase in outstanding liabilities. Interest payments are consuming more revenue yearly. This is a trend that does not bode well for the future. The fiscal deficit cap has also led to states losing out on interest, as they are forced to keep cash surpluses to adhere to deficit targets, which they invest in 14-day intermediate treasury bills. This is a losing proposition, as the cash is borrowed by states at a higher rate. The long-term effects of the state fiscal deficit cap should thus now be questioned. The Fifteenth Finance Commission’s terms of reference call for reducing support to “populist” schemes in the states, and it should be restrained in its recommendations.