Flexible norms for external aid to states

Move to help contain fiscal deficit

The government is considering a long-standing proposal to route external aid to the states through a separate public account instead of routing it through the Budget.

The move will mean that external aid, which is currently passed on to the states on the same terms as normal central assistance, will now be given to them on the same terms as those offered by donors.

"The loan component of externally-aided projects could be taken out of the Consolidated Fund of India and treated like the National Small Savings Fund. A non-Budget arrangement will give more flexibility to the states," said NJ Kurien, principal consultant, NIPFP.

Treating these loans differently will mean that central loans to the states will go down, reducing the expenditure of the Centre. The move will also contribute to containing the fiscal deficit of the Centre, which has to remain within the bounds dictated by the Fiscal Responsibility and Budget Management Act.

The government had recently announced that it would accept bilateral aid from all G-8 countries""the US, UK, Japan, Germany, France, Italy, Canada and the Russian Federation. Official aid from other countries of the European Union outside the G-8 would be welcome, provided the package was worth at least $25 million a year. The previous government had decided not to accept any bilateral foreign aid.

Under the new system, funds coming in as external aid would go into a separate fund and would get passed on to the states on the same terms as those offered by the lenders.

This means, that if states negotiate a 100 per cent grant, they will get the money as a 100 per cent grant, as against the current arrangement, under which 70 per cent of the money is given to states as a loan and the rest as a grant, irrespective of the terms under which it is given by the donor agency or country.

This move would entail an exchange rate risk in case of loans, wherein repayment might go up if the exchange rate worsened, however, it would also provide more flexibility to the states, Kurien said.

What it means

• Treating these loans differently will mean that central loans to the states will go down, reducing the expenditure of the Centre
• Under the new system, funds coming in as external aid will go into a separate fund and will get passed on to the states on the same terms as those offered by the lenders
• This move will entail an exchange rate risk in case of loans, wherein repayment may go up if the exchange rate worsens. But, it will also provide more flexibility to the states