﻿Explainer: Is Fiscal Deficit of State Governments under control?
Sai Krishna Muthyanolla
October 24, 2019
As per the FRBM act,
the fiscal deficit of the state governments is supposed to be less than 3% of
the GSDP of the states. Is the fiscal deficit of the state governments under
control? How are states financing the fiscal deficit? Here is an explainer.
India constitution declares India to be a ‘Union of States’, with the states having certain powers in respect to executive, legislative and financial matters. Chapter I of Part XII of Indian Constitution lays down the laws regarding Financial matters of the Union of States. Various articles provide for a certain degree of autonomy to the states to deal with its financial matters.
For e.g., Article 282 provides forfinancial autonomy in spending the resources available to the states for publicpurpose.
The Centralgovernment’s decisions have a significant bearing on the economy of the country,through its policies, taxation rules, spending etc. Similarly, even the stategovernments have an influence on the state economy through state leveltaxation, favourable policies for economic growth etc. which in turn has animpact on the national economy.
Factly hadearlier published an article about India’sFiscal deficit. In this story we look into the fiscal deficit of Indian States.
Lesser Fiscal
Deficit estimated for 2019-20 for states compared to previous year
As per ‘State Finances
A Study of Budgets of 2019-20 Report’, released byRBI recently, the budget estimates forecast the fiscal deficit
of the states at ₹ 5.52 lakh crores for the year 2019-20. This constitutes2.6% of the GDP.
The Budgetestimate for fiscal deficit of states in 2018-19 was ₹ 4.90 lakh crores which was 2.4% of GDP. However, the fiscal deficit estimatefor 2018-19 was revised to ₹ 5.55 lakh crores whichis 2.9% of GDP.
One of thetargets set as part of the Fiscal
Responsibility and Budget Management Act, 2003 was to limit the Fiscal
Deficit to 3% of GDP. Over the past 15 years, with the exception of 2015-16& 2016-17, the Gross Fiscal Deficit (GFD) of the states remained at lessthan 3% of the GDP.
In 2015-16 theGFD was 3.1% which increased to 3.5% in 2016-17. It however fell to 2.4% as perthe actuals for 2017-18.
The
performance in respect to GFD not consistent across the states
Over thefour year period, the performance
of each state in respect to GFD as share of GSDP ( Gross State Domestic Product) hasbeen varied.
Punjabwhich reported a GFD of 12.4% of GSDP in 2016-17 was able to cut down GFD to2.6% in the next year. The revised estimate for 2018-19 puts the fiscal deficitat 3.4% and the budget estimate for 2019-20 puts it at 3.4% of GSDP in the caseof Punjab.
On theother hand, Arunachal Pradesh which reported a surplus in 2016-17 (-4.3% ofGSDP) has estimated the GFD for 2019-20 at 2% of GSDP.
Apartfrom Punjab, there are other states which have managed to reduce their GFD asshare of GSDP since 2016-17. Tripura had a GFD share of 6.1% which wasgradually reduced, to an estimate of 2.8% for 2019-20. The revised estimate for2018-19 is 2.1% of GSDP.
Among thelarger states, Telangana showed consistent improvement where in the GFD whichwas 5.3% in 2016-17 is estimated to be only 2.4% for 2019-20.
Rajasthanwhich had a high GFD share of 6.1% of GSDP in 2016-17 is now projected at 3.2%for 2019-20. It has managed to achieve a GFD of 3% in 2017-18.
Apartfrom Arunachal Pradesh, which reported a surplus in 2016-17 and then iscurrently estimated to have a deficit, Sikkim and Mizoram are the other twostates with a similar situation. Both these states had a surplus which was 0.4%and 1.5% of GSDP in 2016-17 are estimated to have GFD of 2.8% and 2.1%respectively in 2019-20.
Among thelarger states, Chhattisgarh had an increase in GFD by 1.6% over the 4 years.In  2016-17, the GFD was a low 1.6% ofGSDP which as per the estimate for 2019-20 has doubled to 3.2% of GSDP.
Jammu &Kashmir which had a high GFD share of 4.9% has shown variance over the lastfour years. While it managed to reduce the actual GFD in 2017-18 to 2%, therevised estimates for 2018-19 peg the GFD at 11% and the budget estimate for2019-20 put it at 6.5%. The current situation in the state may only add to thisincreasing trend.
Odishaand Assam are the other two states whose GFD % is estimated to miss the targetof 3% with 3.5% and 3.1% respectively in 2019-20.
As perthe Budget Estimates for 2019-20, 12 states are estimated to cross the FRBMmandated GFD limit of 3% of GSDP.
Market
borrowings from a major part of financing Gross Fiscal Deficit of the States
As perthe actual
accounts for 2017-18, 84% of the states’ GFD is financed through Market borrowings. As per one of the
recommendations from 14 Finance Commission Report, most of the stategovernments have opted out of National Small Savings Fund (NSSF), and have optedfor Market borrowings as an option to raise funds for the fiscal deficit.
Depositsand Advances constituted 15.6% of sources in financing GFD for 2017-18, followedby Provident Funds at 8.2%. These are average shares for all the states and thesources through which each of the individual states finance their fiscaldeficit varied in 2017-18.
Loansfrom LIC, NABARD, NCDC, SBI and other banks constituted 3.1% of deficitfinancing. The loans from Centre constituted only 1.1% of the state deficitfinancing.
As perthe revised estimates for 2018-19, the share of Market Borrowings is estimatedto be reduced to 73.7%, followed by provident funds which is estimated toaccount for 6.3% of deficit financing. Loans from LIC, NABARD, NCDC, SBI andother banks are estimated to account for 4.3%.  Deposits and Advances which was the secondhighest source for 2017-18, is estimated to have only 3% share of deficitfinancing.
However, asper the Budget estimates for 2019-20, 87.9% of the deficit financing isestimated to be from Market Borrowings. Meanwhile, the loans from Centre areestimated to constitute 3.3% of the deficit financing.
While GFD
is moving towards the set target, rise in market borrowings is a concern
The GFDof the states for 2019-20 is estimated to be within the 3% of GDP limitrecommended by Fiscal Responsibility and Financial Management Act, 2003. The RBI
report on Fiscal Position of State Government observesthat this deficit financing is done to a large extent through marketborrowings. As per the report, market borrowings financed 52.8% of the fiscaldeficit of the states in 2001 which has over the past few years has rapidlyincreased to around 88% as per the budget estimates of 2019-20. States with GFDequal to or less than 3% are almost entirely financing their fiscal deficitthrough market borrowings.
A look at the expenditure of states, would reveal that major portion is non-capital expenditure. Such expenditure is not productive for the economy as it is not an investment for the future. Borrowings from the market to financé such fiscal deficit would not augur well for the economy in the longer run.
So, whilethe efforts by the states to reduce the fiscal deficit are appreciable, findingmore reliable and less burdensome sources to finance the expenditure andidentifying ways to reduce the non-capital expenditure would be a prudent wayto reduce fiscal deficit of the states.