Centre eroding States’ fiscal autonomy

The synchronisation of the responses of the Centre, the States and local governments is necessary and inevitable if the pandemic is to be contained. However, never have the fiscal relations between the Centre and States been so strained as are seen today. The rhetoric of cooperative federalism is being transformed into coercive federalism, hampering the national response to Covid-19, be it for healthcare, migrants, livelihood or efforts to tackle the economic recession.

Any squeeze on the States’ development expenditure, which accounts for 60 per cent of the combined government expenditure, in a period of slump would have a disastrous socio-economic impact.

The latest instance has been the imposition of conditions on the additional borrowing permitted to the States as part of the Central stimulus package. Available estimates show that there would be a 25-35 per cent shortfall in the budgeted revenues of the State governments for 2020-21. There is no option other than to raise the fiscal deficit ceiling from 3 per cent to 5 per cent of the State GSDP. Any squeeze on the States’ development expenditure, which accounts for 60 per cent of the combined government expenditure, in a period of slump would have a disastrous socio-economic impact. Instead of providing support with grace, the Central government has chosen to make additional borrowing by the States conditional.

States’ rights undermined

The Terms of Reference of the 15th Finance Commission (FC) were a pointer towards the attempt to impose these conditions by invoking the provisions of Article 293(3) of the Constitution. This is uncalled for, as there are already legislative restraints on borrowing. Any further restrictive conditionality seems to be only intended to hinder the development policies of the States, and not to ensure macro fiscal balances. Many of us were happy that the FC, in its wisdom, declined to bite the bait, at least for 2020-21. Now, the Centre has used the pandemic to introduce conditions on the market borrowings of the States, drawing widespread protests.

The Centre is in no mood to favourably consider even the payment of GST compensation, which is a legal commitment to the States.

To my great surprise, the FC Chairman NK Singh has openly defended the actions of the Central government. According to The Hindu, he has taken the stand that “all borrowings are not an automatic right” and that the “States are not obliged to borrow additionally as prescribed by the Centre”. No one would argue that State borrowings are an automatic right, but can anyone show one instance in the past that market borrowings of the State governments have been subjected to any condition other than the State’s own FRBM Act? In the present circumstances, States do not have the choice of not utilising the additional borrowing. But the Centre need not use the cover of the pandemic to undermine the fiscal autonomy of the States.

This is precisely what the Tamil Nadu Chief Minister, an ally of the BJP, accused the Central government of doing. He said in an open letter to the Prime Minister that the Centre “aggressively pushing reform agenda on which consensus is yet to be developed at a time when States have approached the Centre for additional borrowing out of sheer desperation, is not in keeping with the spirit of co-operative federalism”.

The Central divisible pool has shrunk and will shrink further, and the 42 per cent share of the States becomes meaningless. There is a need for specific grants for the Covid-19 response.

I do not want to enter into a discussion of the merits of the conditions imposed in the package. Even if all of them are acceptable to the States, the Centre is setting an unacceptable precedent. This can be used to undermine, in the future, even the limited autonomy that the States enjoy today. The common denominator of the plethora of legislations passed recently by the present Parliament, to the latest one on the Labour Code, is a systematic undermining of States’ rights.

Level of micromanagement

The economic package takes micromanaging State policies to ridiculous levels. For example, the power sector reforms (one of the four conditions) have three components: reduction in aggregate technical and commercial losses; reduction in the average cost and average revenue gap; and introduction of direct benefit transfer to farmers. For compliance to the first two sub-conditions, 0.05 per cent of the GSDP each and to the third, 0.15 per cent of the GSDP, additional borrowing would be permitted. Some clever advisors of the Centre think that they have the wisdom to micromanage the diversity of India.

If these people had their way in the past, Kerala would never have been able to put up such a stellar performance in fighting the pandemic. Kerala has chosen to give priority to investment in public education and health for many decades, and the State has also adequately provided for local governments in a way that it can never hope to overcome revenue deficits under the present public expenditure accounting norms. We do not regret for a moment the fiscal path we have chosen. This autonomy is what is being attacked by homogenisation through conditional grants and loans.

Additional resource handles will have to be made available to the States to enable an effective response to the present situation, and help bring the economy back on track.

In constitutional assignments of functions, health is a State subject. India’s public health expenditure is 1.2 per cent of the GDP. Ninety per cent of this expenditure is incurred by the States. They need additional support for not only Covid-19 related health responses, but also regular health sector priorities. The economic package does not accord this priority to the health sector.

Then there is the issue of providing finance for livelihood responses. This requires significant frontloading of expenditure and increasing existing levels of social protection expenditure. Kerala was the first to announce a relief package, of ₹20,000 crore. More than half of it was in the form of direct transfers of money to households for welfare payments, scholarships, free food kits and so on. The rest was financial support to return migrants, farmers and MSMEs through State-owned financial institutions and cooperatives.

In other words, what is budgeted for the year 2020-21 will require a significant step. It would require additional support from the Centre as the present additional borrowing would only cover half the shortfall in State revenue receipts. The Central divisible pool has shrunk and will shrink further, and the 42 per cent share of the States becomes meaningless. There is a need for specific grants for the Covid-19 response.

No relief for State burden

The prospects of such help looks very bleak, as the Centre is in no mood to favourably consider even the payment of GST compensation, which is a legal commitment to the States. If this compensation is paid, the shortfall in GST, which is the main revenue source of the States, can be mitigated. The Central government is, on record, committed to provide for the compensation through temporary borrowing by the Compensation Fund, which could be recouped by extending the period of the compensation cess. Despite the unanimous plea by the States, the Central government is sticking to its stand that the compensation payment will be limited to the money available in the Compensation Cess Fund.

Finally, inter-State and international migration and migrant quarantine are in the Union List. In other words, States are performing Central functions. It is probably not the time to debate the functional space of the Union and the States, when an effective response is the need of the hour. Given the limited resources in the hands of the State, the States have been trying their best to deal with the pandemic. Additional resource handles will have to be made available to the States to enable an effective response to the present situation, and help bring the economy back on track.

(The writer is the Finance Minister of Kerala)