In February 2015, Prime Minister Narendra Modi wrote to Chief Ministers on his government’s decision to accept the recommendations of the 14th Finance Commission, including a record transfer of 42% of the net proceeds of all central taxes — a full 10 percentage points higher than at any time in the past. The decision would hit the finances of the central government, Modi said, but it would also “strengthen your hand in designing and implementing schemes as per your priorities and needs”. His government was committed to empowering states through financial strength and autonomy, while observing financial prudence and discipline, the Prime Minister said.
Two years on, it appears that the PM’s celebration of cooperative federalism may have come at a cost. A decade and a half ago, another NDA government had struggled to repair the finances of states reeling from the twin blows delivered by the implementation of the Fifth Pay Commission and an economic slowdown — and history may well be repeated if there is no uptick in the economy, and if oil prices indeed move northward at some point of time.
Rather than the fiscal prudence and discipline that the PM underscored then, what is at work now is competitive populism. After the Uttar Pradesh government wrote off farm loans worth over Rs 25,000 crore, Maharashtra is looking at a potential Rs 30,000 crore waiver in the face of a spiralling agitation by farmers. Governments of two other states, Andhra Pradesh and Telangana, which had announced huge farm loan waivers in 2014, are now picking up the tab — with Andhra having paid out over Rs 11,000 crore. UP will have to find the resources too.
Maharashtra has announced that a committee would examine how to implement the waiver — which comes at a time when the state’s fiscal deficit as a percentage of state GDP (revised estimate, FY 17) has climbed to 2.22% from the 1.54% in the budget estimate, and the revenue deficit has risen from the budget estimate of 0.16% to 0.63% of GSDP in FY 17. For FY 18, the “optimistic” target is 1.53%, assuming the monsoon is normal and the economic environment favourable.
Sure, Maharashtra’s debt stock as a percentage of GSDP at 16.36% in FY 17 will give it the elbow room to raise funds from the market — but that would mean eating into development expenditure. But even as Maharashtra kicks the can down the road — the committee has been given time until October — and Uttar Pradesh is yet to implement the scheme, it would make sense to look at the experience of Andhra Pradesh.
No state has the resources to do a one-shot write-off by paying cash to lenders, and a deferred redemption of outstanding loans over a period of 3 to 5 years actually ends up hurting the farmers. This is not because of what is referred to as the ‘moral hazard’ of fostering a credit culture that encourages borrowers to default — but because a staggered repayment to banks or lenders leads to farmers being denied credit or fresh loans in the next crop cycle. Unlike in the past, banks no longer roll over such loans.
Of course, there are political advantages of waivers in the near term. The current round of loan write-off announcements was started by Modi himself, when he committed to a waiver during the UP election campaign. The trade-off is that other core issues — such as the sustainability of farm operations and investment in agriculture, or reforming the farm credit delivery system — which have a far more enduring impact, remain unaddressed.
The autonomy to states — with the leeway to design or utilise the extra 10% of the devolution from the Centre — has also meant a greater onus on them to build infrastructure and deliver on the social sector, areas in which the central government has laid down uniform rules in the past. There are other challenges too. In the new GST regime, states will no longer be able to compete to attract investment through tax-based incentives. Any such attempt will have to go through their own budgets — like reimbursing tax — which, in turn, would dent their finances.
Add to that the burden of carrying out the most difficult reforms — labour and land. India does not have a system of rewarding prudent states when they borrow from the market, or of weightage for fiscal discipline or consolidation. In the West, missing fiscal targets can be costly for governments — not so here. But to be fair to any government, it is, indeed, a huge political challenge to ignore the farm sector when corporate debt is being restructured.
The deterioration of state finances has triggered worry over whether the bonds that unite a federation are indeed loosening. In a column on politics and governance and the “state of states” written for this newspaper during NDA 1, former Finance Minister P Chidambaram had argued that the consequence of the misgovernance of a state do not stop at the borders of that state. They pull down the whole country and its progress. He had suggested that the central government and bodies like the Planning Commission and Finance Commission must call these states to account, and that the CAG should show no mercy to those responsible for the misrule.
But Chidambaram’s political opponents could well point to the farm loan waiver in his 2007-08 Budget — even though it came at a time when the finances of both the central and state governments were perhaps among the best in the post-liberalisation period.
In 2002-03, when the NDA was in power, Finance Minister Jaswant Singh had written that “agriculture continues to be the Cinderella under the NDA government”. Will that be the case this time around as well?