Over the past few weeks, several state governments had urged the Centre to relax the fiscal deficit limits imposed on them on account of the stress in their finances. On Sunday, the finance minister acceded to their request, raising their borrowing limit to 5 per cent of GSDP, up from 3 per cent before. In itself, this is a welcome move. Allowing states to borrow an additional Rs 4.28 lakh crore this year will provide them the resources to fight this pandemic and perhaps, help them maintain their budgeted expenditure allocations. But imposing conditions for availing these additional borrowings may not be the prudent approach in the current situation. As some states may not be able to carry out the reforms, making them ineligible to borrow more, they will be forced to cut back on their spending, imparting a contractionary fiscal impulse at a time when government spending is the only engine that can drive the economy.
As per the guidelines laid down by the Centre, the first tranche of additional borrowings amounting to 0.5 per cent of GSDP will be unconditional. However, the next 1 per cent of borrowing will be allowed in four tranches, linked to reforms in the areas of ease of doing business, one nation one ration card, power distribution, and urban local bodies. States will be allowed to borrow the final tranche of additional 0.5 per cent of GDP only if they achieve the targets in three of the four reform areas. While states have the authority to borrow under Article 293 (1) of the Constitution, the central government exercises control through Article 293 (3) which requires state governments that are indebted to the Centre to seek its consent before borrowing. Earlier, in its terms of reference to the 15th Finance Commission, the Centre had submitted to the Commission to take into account the conditions that the Centre may impose on states while providing consent under Article 293(3). While the Commission is yet to submit its final report, the Centre has used this opportunity to impose conditions on state borrowings.
State governments should be encouraged into undertaking contentious reforms, of course. But attaching conditions to their borrowings, especially at a time like this, is at best avoided. States, who are at the frontline of fighting this pandemic, need to be assured of adequate resources. The conditions imposed on the additional borrowings should be eased, allowing them to borrow freely during this period.