Is Expenditure by States for Development Compromised to Ensure Compliance of Fiscal Targets? A Study of Indian States

Abstract

This article examines the interlinkage between fiscal consolidation targets and states’ developmental expenditure under capital account. While fiscal consolidation targets have enabled states to take corrective measures to reduce deficit under the revenue account, the effect of the same is studied on developmental expenditure under capital account. For analysis, the fiscal deficit and developmental expenditure under the capital account have been compared with the fiscal deficit targets and general category states’ average benchmarks for fiscal indicators for three phases (corresponding to the periods of three finance commissions). It is argued, that, while fiscal consolidation has helped to improve the state finances, the stringent fiscal targets have further reduced the developmental expenditure under capital account. In view of this, it is suggested that the states, which are historically stressed, should be allowed to borrow an additional amount of 0.25 per cent of GSDP each year over and above the existing limit, provided these states make efforts to reduce deficit under revenue account and spend the extra borrowings on developmental expenditure under capital account.

Comments on the Paper ‘The Optimal Distribution Rule of Federal Funds to States in India: A Suggested Methodology’ by Raychaudhuri and Roy (2021)

“…However, as pointed out by Dwivedi and Sinha (2020), one needs to take account of the fact that over the years, development expenditures under capital account have been compromised by states to ensure compliance of fiscal targets (of fiscal deficit (FD) of 3% of GSDP) set by different FCs as part of Fiscal Responsibility and Budget Management (FRBM) targets. The study suggests that some states such as Odisha have apparently constrained their capital expenditure below the GCS average during 2005-2006 to 2009-2010, to lower the fiscal deficit and maintain the FRBM targets, although they had the fiscal space to enhance it.…”