T N Ninan: States are at the centre

Two fortuitous developments have saved Central budgets in recent years. One is the sharp drop in crude oil prices from the stratospheric levels they had reached in 2013-14. Sensibly, the government used this as an opportunity to virtually eliminate the massive subsidies on petroleum products, and to jack up taxes. The excise duty on petrol has been doubled, while that on diesel has gone up 140 per cent. These duties on petroleum products now account for over a half of all excise revenue, and explain the surge in excise collections this year, despite sluggish industrial growth. The second bonus of recent years has been revenue from spectrum auctions — 0.4 per cent of GDP, last year. Without these, the Centre would not have been able to show any fiscal correction in recent years. 

While the Budget has gained, other players in the system have paid the price — the contra entry for the spectrum revenue is the massive debt pile-up by the telecom companies. And consumers have not enjoyed the full benefit of lower oil prices. Also, since these bonanzas are not replicable year after year (spectrum revenue will fall this year because of the failure to conduct an auction), future growth in government spending will have to be financed in other ways. One, tax booster would be a shift upwards in the rate of service tax, from an effective rate (including cesses) of 15 per cent to 18 per cent. The other, more iffy kicker, will come from a recovery in corporate profit margins, which have been squeezed in recent years. But the timing of such a revenue kicker is uncertain, given that the economy is slowing down this year and may not gain much momentum next year. 

Looking at just the Central budget could lead to wrong conclusions, though. The bonanza these past three years has gone from the Centre to the states. Central transfers to state governments ballooned by an astonishing 60 per cent in 2014-15, thanks to the overly generous recommendations of the Finance Commission; states’ total revenue in that year grew therefore by 32 per cent, before returning to a more normal growth rate of 11 per cent the following year. The result is that state budgets, which once were smaller than the Central budget, are now about a third bigger. States have become the centre of fiscal action. 

Yet, despite the availability of much greater revenue, state deficits went up from 2.2 per cent of GDP in 2013-14 to 2.9 per cent the following year; by some accounts the deficits have gone up further subsequently. It is only because the Centre’s deficit has been squeezed in the same period that the system-wide deficit — of Centre and states combined—has remained at about 6.5 per cent of GDP. But as the Reserve Bank governor pointed out recently, this is the highest among all G-20 countries. Still, the state picture is about to get optically worse, because most of them have agreed to take on to their books 75 per cent of the debt piled up by the power distribution entities (discoms). Such debt had doubled in the three years to 2014-15, on account of a 20-25 per cent gap between the cost of power and the price charged to consumers. 

This situation presents some tricky challenges for the finance minister, given that expectations from the coming Budget are unusually high. People expect a cut in corporate tax rates, in line with international trends; significant relief for income-taxpayers; and perhaps the beginnings of a universal basic income plan. In addition, defence acquisitions need much more money, as does investment in the infrastructure. It would be impossible to meet all these expectations in the absence of revenue buoyancy and subsidy cuts. But the bulk of the subsidies are now in the state domain: On electricity, for instance. So here’s a thought: If a basic income plan is indeed being considered, it should be contingent on states sharing the cost.