The Hindu : Opinion / Leader Page Articles : Centre-State financial ties

Online edition of India's National Newspaper
Wednesday, May 19, 2004

Opinion

Opinion - Leader Page Articles

Centre-State financial ties

By Abhijit Sen

The new government should indicate immediately its position on the two issues that have virtually bankrupted all State Governments: the impact of Pay Commission awards and the overhang of high-cost debt.

WHATEVER SPIN different commentators may put on the electoral verdict, one aspect is crystal clear. The electorate has rejected resoundingly the claim that a general "feel-good" has followed the economic "reforms," which have delivered to the rich by reigning in taxes and government discretion.

Every Central Government that "reformed" in this manner since 1991 has lost the subsequent election. And, in keeping with this trend, the party political message from the present verdict is also rather fractured. While the National Democratic Alliance is the big loser overall in these elections, the Congress too has not been spared. Its Vidhan Sabha defeats in the Legislative Assembly elections of Chhattisgarh, Madhya Pradesh and Rajasthan have been repeated and not only has it suffered further losses in Assam, Karnataka, Kerala and Punjab, its Maharashtra performance, though better than 1999, still augurs poorly for the Vidhan Sabha prospects.

Nonetheless, the just concluded elections have demonstrated more clearly than in the past that claims of development, however hyped, are meaningless without results at the grassroots. And, in particular, that if "reforms" and less government mean poorer infrastructure, collapsing systems of education, health and food security, and withdrawal of support to agriculture, voters will have none of it. As the new dispensation takes office on its promise of delivering to the "common people," it is necessary to bear in mind that none of these concerns can be delivered upon unless finances of State Governments are sound. Most election manifestos have missed this.

This has the implication that efforts to arrive at a common minimum programme (CMP) may fail on the essential concerns of voters if the economic content of this remains limited to broad statements on specific areas of Central Government competence. With the nation's population now split roughly evenly among the States where the Congress, its allies (both pre-and post-poll) and the NDA rule, Centre-State financial relations are probably the most important economic issue that needs to be addressed — differently from the atrocious and partisan discretion shown by the NDA on this matter.

Many of the issues involved fall properly in the domain of the Twelfth Finance Commission (TFC), which should not be interfered with. But this Commission is bound not only by its terms of reference but also by current fiscal practices which it must assume while making its awards. The Central Government must make clear whether it contemplates any change in the TFC's terms of reference or on parameters that might affect its assumptions as quickly as possible.

As to the terms of reference, the potentially controversial area is grants linked to reward of "performance." Since this is an area that gives the Centre discretion on what constitutes "performance," the new government should indicate where it stands and the matter discussed with at least those who are party to the CMP. But the more important area is to indicate immediately the new government's position on the two issues which have virtually bankrupted all State Governments: the impact of Pay Commission awards and the overhang of high cost debt.

The area on which immediate movement is possible is debt owed by the States to the Centre. The total public debt of States is currently about 30 per cent of the GDP, and interest payments have doubled as per cent of revenue since 1991 to about 25 per cent. Roughly 40 per cent of this total debt is owed to the Centre and nearly another 20 per cent is owed to the National Small Savings Fund (NSSF). Restructuring these two debt components can substantially improve overall State finances.

On this, a recent concept note from the Planning Commission has suggested that all State debt to the Centre (but not to the NSSF) be written off and that there be no further loans from the Centre to the States. According to this, all future Centre to State transfers would take only the form of grants and all borrowings would only be from the market but subject to Reserve Bank discipline under Article 293 of the Constitution.

Although this suggestion of complete write-off may attract criticism, the idea is bold. It can help to clear the logjam that currently results in much higher than market interest rates paid by the States, with the Centre receiving more from these interest payments (including to the NSSF) than it collects from income tax. A decision on this is necessary and it must also extend to Small Savings.

If not a complete debt write-off, at least the State debts should be quickly restructured to ensure that interest liabilities are at no more than the market rates at which the Centre itself borrows. For State finances to be viable, the long-run requirement is that the average rate of interest must be substantially less than the medium-run rate of growth of nominal GDP. This at least must be assured if States can begin delivering on what voters clearly want.

(The author is Professor at the Centre for Economic Studies and Planning, Jawaharlal Nehru University, New Delhi.)

Printer friendly page
Send this article to Friends by E-Mail

Opinion

News Update

Stories in this Section

STUNNING POLITICAL SACRIFICE

POWER OF DEMOCRACY

Government formation and after

Centre-State financial ties