Reward States’ good fiscal show

States’ financial position has improved over the last few years

Published - January 31, 2017 10:44 pm IST - NEW DELHI:

The Economic Survey recommended the Centre to incentivise good fiscal work by States to keep the overall fiscal performance on track.

“Greater reliance will need to be placed on incentivising good fiscal performance, not least because States are gradually repaying their obligations to the Centre, removing its ability to impose a hard budget constraint on them,” according to an official statement.

It, however, added that incentivising good performance by the States will require the Centre to be an exemplar of sound fiscal management itself.

The Economic Survey pointed out that there has been an improvement in the financial position of the States over the last few years. “The average revenue deficit has been eliminated, while the average fiscal deficit was curbed to less than 3% of GSDP. The average debt to GSDP ratio has also fallen,” it said.

Exogenous factors

Pointing out that the progress cannot be attributed entirely to Fiscal Responsibility Legislations (FRL) adopted in the States, the Survey noted that much of the improvement in financial positions was possible because of exogenous factors, most notably assistance from the Centre in the form of increased revenue transfers, the assumption of state debt, and the introduction of centrally sponsored schemes.

“…the role of the FRL may really have been to prevent them from spending all of their windfall,” according to the Survey.

The Survey also highlighted that Pay Commission recommendations, and mounting payments from the UDAY bonds will lead to increase in fiscal challenges for the States. Hence, there is a need “to review how fiscal performance can be kept on track.”

Further, the Survey has further suggested that Redistributive Resource Transfers should be significantly linked to fiscal and governance efforts on the part of the States.

RRT flows

Redistributive Resource Transfer or RRT to a state (from the Centre) is defined as gross devolution to the state adjusted for the respective state’s share in aggregate GDP.

The top 10 recipients are: Sikkim, Arunachal Pradesh, Mizoram, Nagaland, Manipur, Meghalaya, Tripura, Jammu and Kashmir, Himachal Pradesh and Assam.

The Economic Survey pointed out that there is no evidence of a positive relationship between these transfers and various economic outcomes, including per capita consumption, GSDP growth, development of manufacturing, own tax revenue effort, and institutional quality.

Instead, there is a suggestive evidence of a negative relationship. For example, larger RRT flows seem to negatively affect fiscal effort.

“…the existence of a ‘RRT curse’ and the lack thereof of a ‘natural resource curse’ in the context of Indian States implies that both the Centre and States need to act to mitigate the effects of the former and guard against the emergence, in future, of the latter. In this context, the question is whether RRT, in future, can be linked more saliently to fiscal and governance efforts on the part of the States.”

It also recommended using a part of the RRTs or redistribute the gains from resource use, as a Universal Basic Income directly to households in relevant states which receive large RRT flows and are more reliant on natural resource revenues.

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