Context:
India’s medium-term economic momentum will increasingly depend on the fiscal room available to States, as they balance welfare commitments, capital expenditure (capex), and fiscal consolidation. An analysis of recent trends highlights the critical role played by Union government support, borrowing relaxations, and Finance Commission recommendations in sustaining State-level spending.
Key Highlights:
- Rising Fiscal Deficits of States
- States’ fiscal deficits exceeded 3% of GSDP during FY2021–FY2024.
- This was enabled by temporary relaxation of borrowing limits beyond the base norm.
- The relaxation responded to pandemic-induced revenue stress and recovery needs.
- Central Support through Loans
- The Union government extended GST compensation loans worth ₹2.6 trillion during FY2021–FY2022.
- Interest-free capex loans (50-year tenure) to States rose sharply:
- From ₹0.1 trillion in FY2021
- To nearly ₹1.5 trillion by FY2025
- Total transfers under this window touched ₹3.7 trillion (FY2021–FY2025).
- Surge in Capital Expenditure
- Capital expenditure and loans & advances of 28 States grew at a CAGR of 18.5% between FY2021–FY2025.
- Aggregate capex doubled to ₹8.4 trillion, supporting infrastructure-led growth.
- Some States availed ₹1.3 trillion by completing power sector reforms, as incentivised by the Centre.
- Welfare Expansion and Fiscal Pressure
- Cash transfers to women across 11 States are projected to reach ₹1.5 trillion in FY2026.
- This amounts to around 0.8% of GSDP, signalling a major expansion of direct benefit-based welfare.
- To accommodate such schemes, some States have begun curtailing other discretionary spending.
Relevant Prelims Points:
- GSDP (Gross State Domestic Product): Total economic output of a State.
- Fiscal Deficit: Excess of total expenditure over total revenue.
- CAGR: Measure of average annual growth over a period.
- Finance Commission: Constitutional body under Article 280 recommending tax devolution and fiscal arrangements.
- 15th Finance Commission: Allowed additional borrowing flexibility and carry-forward provisions.
Relevant Mains Points:
- Enhanced borrowing space helped States sustain counter-cyclical spending post-pandemic.
- Interest-free capex loans created incentives for productive expenditure over revenue spending.
- Expanding welfare commitments risk crowding out capital investment if revenues remain constrained.
- Fiscal federalism is evolving towards conditional support and reform-linked incentives.
- Long-term sustainability depends on States’ ability to raise own revenues and prioritise expenditure quality.
- Way Forward
- The recommendations of the 16th Finance Commission will be decisive in:
- Resource sharing between Centre and States
- Borrowing limits and fiscal rules
- Carry-forward of unutilised borrowing space
- States must strike a balance between social welfare expansion and growth-enhancing capex.
- Greater emphasis on outcome-based spending, power sector reforms, and revenue mobilisation is essential.
- Predictable and transparent fiscal transfers will strengthen cooperative federalism.
UPSC Relevance:
GS Paper II – Polity, Federalism
GS Paper III – Economy, Public Finance