Fiscal Health of the States

Why in news?

A comprehensive revenue deficit reduction framework is essential to improve the fiscal health of the states.

Terms

What is the status of the fiscal health of States?

• State mobilises more than 0ne-third of total revenue, spend 60% of combined government expenditure.
• Around 40% in Government borrowing is shared by the states of India.
• At the Union level, the fiscal deficit declined from 9.1% of GDP in 2020-21 to 5.9% in 2023-24.
• All State fiscal deficit declined to 3.24% of GDP in 2022-23 from 4.1% of GDP in 2020-21.
• For the major States, fiscal deficit is expected to be at 2.9% of GDP in 2023-24.

Why is this fiscal consolidation significant?

• Fiscal prudence of the States- The states in aggregate managed to be fiscally prudent despite a significant contraction in revenues even during peak of COVID-19 peak.
• Union-State fiscal Coordination- It is needed for emergency provision during the pandemic to spend for health and livelihood.
• States were able to reprioritise expenditure and quickly contain the Fiscal Deficit.
• Reduction in Fiscal Deficit - It is due to combination of expenditure-side adjustments, improved Goods and Service Tax (GST) collection and higher tax revenues.
• Non-GST revenues – It is also showing signs of recovery post pandemic in many states.

What are the fiscal challenges?

• Increase in Revenue Deficit (RD) - The reduction in fiscal deficit has not resulted in corresponding reduction in revenue deficit.
• The all state share of Revenue Deficit in Fiscal Deficit for 2023-24 is expected to be at 27%.
• Debt to GSDP - Most States also have large debt to GSDP ratios.
• This creates a fiscal imbalance which has long-run fiscal implications.

What steps can be taken for revenue deficit consolidation?

• Tackling the revenue deficit - Re-emergence of revenue deficit in recent years can be tackled with incentive compatible framework.
• Interest-free loans - It can be given to the States by the Union Government to eliminate the possibility of a substitution of States’ own capital spending.
• It also prevents the diversion of borrowed resources to finance revenue expenditure.
• Fiscal adjustment plan – A defined time path with a credible fiscal adjustment plan would help restore fiscal balance and improve quality of expenditure.
• A forward-looking performance incentive grants can be launched based on the different approaches provided by earlier Finance Commissions.
• It is necessary to achieve the targets as prescribed in Fiscal Responsibility and Budget Management Act 2003, FRBM Act.

To know more about Union Budget 2023-24 on Fiscal Consolidation click here.

Quick Facts

Fiscal Responsibility and Budget Management (FRBM) Act

• The Fiscal Responsibility and Budget Management (FRBM) Act was enacted in 2003.
• It led to the framing of FRBM Rules in 2004 that sets targets for the Central government to ensure fiscal discipline.
• Amendment - In 2018, the Centre is mandated to take appropriate steps to limit its fiscal deficit to 3% of GDP by March 31, 2021 although this is an operational target.
• The mandated target pertains to the Centre’s debt-GDP ratio which is to be brought down to 40%.

References

1. The Hindu| Explained State Fiscal Deficit
2. Union Budget 2023| Ministry of Finance
3. Economic Survey 2023| Facts