Santa Centre

BS OPINION

After setting up a Rs 10,000 crore incentive fund for states to pursue fiscal reforms, allowing debt swaps of Rs 25,000 crore every year for the next five years, and giving many states loans to sort out their fiscal mess, the finance ministry has now decided to take on its books the states' burden of reform measures like voluntary retirement schemes, downsizing and other fiscal adjustment measures. It would appear as if the finance minister has no budget constraint to speak of.

To the extent that the Centre is sensitive to the fiscal plight of the states, this is a welcome change. What is worrying, however, is that the Centre is increasingly taking upon itself all manner of bailouts relating to the states and it is not entirely clear how it is going to balance its books.

These bailouts are essentially shifting the deficit from the states to the Centre. There is no termination of the deficit generating processes at the state level.

Also, given the manner in which deficits are being substituted by debt, the rising debt level will reduce the fiscal flexibility of the Centre in the coming budgets. To some extent, by showing unprecedented benevolence, the Centre is atoning for its sins.

The Medium Term Fiscal Reform understanding that the ministry had with the states enjoined them to show a minimum improvement of 5 per cent in their revenue deficits as a proportion of their revenue receipts each year till 2004-05.

This stiff target was made impossible by the Centre's poor tax collection and hence devolution to the states. With devolution almost Rs 35,000 crore lower, it became impossible for the states to meet these targets.

In turn, the finance ministry, as provided for in the agreement, held back grants to the states because they did not meet the reform targets. This put the states in complete fiscal disarray. Perhaps, it is to cover this up that the ministry has now gone overboard in underwriting their expenditure.

It makes more sense for the ministry to focus more on its tax collection, so that the states receive the devolution budgeted for. It may also be time to think of instituting a system that guarantees a minimum devolution to the states by fixing the share of taxes, like grants, in absolute terms rather than as a percentage of estimated receipts.

This will at least prevent deficits from cascading and will also exert pressure on the Centre to keep its commitments in terms of raising tax revenue to make good its loss. It will help the states much more than the ad hoc bailouts the ministry seems to be busy working on.