The price India is paying for the largesse doled out by Centre and states

Irrespective of which among the two is more extravagant, it is the country's GDP growth and its rating that take a beating

A counter-intuitive paper on centre-state finances argues putting more money into the hands of state governments could actually lower the rate of GDP growth for the economy. The authors, Professors N R Bhanumurthy, Sukanya Bose and Sakshi Satija of the National Institute of Public Finance and Policy (NIPFP) do an interesting number-crunching exercise to show “higher devolution share of the states appear to result in marginally lower overall growth. Conversely, lower devolution share to the States vis-a-vis the baseline causes economic growth to be higher by 0.4 per cent for the 14th FC period on an average and 0.3 per cent over the 15th FC…”

The exercise is significant when there is so much debate on whether it is the states or the Centre that is the bigger spendthrift. Spending on subsidies by the Centre that often seem to go nowhere, farm loan waivers or, as in the case of city-states like Delhi, free power and free travel on public transport, are all seen as freebies. But which are more disruptive? Farm loan waivers are certainly one of those and their equivalent, the promise of free power by states like Punjab and Delhi. The NIPFP paper argues that after the dust has settled, the Centre makes better use of its resources than the states. “The higher revenues of the Centre rather than the states might result in an improvement in the nature of public spending towards greater investment than consumption and, therefore, lead to higher growth,” the paper says. 

But this may not always be the case. An Elara Research report points out that "the ratio of incremental capital outlay to incremental revenue receipts of States is budgeted at 0.2 in FY20, unchanged from FY19”. This is significant when the budgets of the states have worsened. Despite the stresses, states seem to be holding on to their capital budget, it says. 

Yet there are problems. The latest S&P ratings action on India says the country “differs from most regional and global peers in that its state and local governments also run persistently high deficits. In combination with higher Central Government deficits…we forecast India's general government fiscal shortfall will remain elevated, averaging approximately 7.3 per cent per year through 2022”.  So, irrespective of the argument of who spends more recklessly, the combination means India’s rating will tend to remain low. Which is bad news for both, since this in turn means the cost of borrowings (externally and even internally) will remain high for everyone concerned if the level of spending on these schemes does not come down. 

An example of the run-off from these costs is the way Uttar Pradesh is playing around with the pension liabilities of its employees. A state audit report notes the state has not paid up Rs 1,379.95 crore towards the pension of its employees. “…the State Government has created uncertainty in respect of benefits due to the employees… thus leading to possible failure of the scheme itself”. These are serious words from the Comptroller and Auditor General.  

It is in this context that the 15th Finance Commission was asked to check out if the states were being populist. In other words, could untied aid to them from the Centre be tied to any standard of responsible behaviour? But as former finance secretary, Sumit Bose points out, the definition of populism remains unclear. Still it may not be difficult to smell out which is a populist scheme. The Maharashtra government has announced a loan waiver of up to Rs 2 lakh for farmers, with a cut-off date of September 30, 2019 and  providing relief to non-defaulting farmers who have a loan of above Rs 2 lakh. An SBI Research report points out: “Going by State’s previous experience on farm loan waiver, this time the cost could be at least Rs 45,000 crore, even if we hypothetically assume the farmers who will get the maximum benefit and complete loan waiver are unchanged from the last loan waiver.”

In Delhi, the CAG points out “Losses in two power companies (Delhi Power Company Limited of Rs 1,524 crore and Delhi Transco Limited, of Rs 1,206 crore) and Delhi Transport Corporation (Rs 29,143 crore) accounted for 99.99 per cent of accumulated losses. For Delhi Jal Board, which supplies water to the city, the loans outstanding amounted to Rs 26,268.89 crore, as on March 31, 2018. These figures are not surprising. Whether in Maharashtra or Delhi, they have to do with the pet peeves of respective chief ministers. Cleary the trend flourished initially under the cash-rich states of Tamil Nadu, but has now caught on nationally. 

The interim report of the Commission, headed by N K Singh, has not offered any comment on this issue. In October they will possibly have no choice but to address the challenge.