Thin ice: States are drowning in debt and politics keeps adding weight

Cash transfers to women need a wider debate

PRS Legislative Research has published a comprehensive report on state-government finances. Even though state governments account for about two-thirds of general government expenditure, their finances do not receive adequate attention in public debate. Reports like these, therefore, fill a crucial gap in the general understanding of state-government finances. Expectedly, the study underscores several fault lines worth discussing here. It shows, for instance, in 2023-24, states spent over 60 per cent of their revenue receipts on heads such as salaries, pensions, subsidies, and interest payments. In the aggregate, states also ran a revenue deficit worth 0.4 per cent of gross state domestic product (GSDP), which means they borrowed to fund recurring expenditure. High levels of committed expenditure constrain state governments’ ability to undertake developmental work. 

Capital expenditure in states is being supported by the special-assistance scheme of the Union government. Under this, states are provided 50-year interest-free loans. Between 2020-21 and 2025-26 (till August 11, 2025), states were given over ₹4 trillion under the scheme. The analysis suggests that states’ capital expenditure from their own revenue sources has remained flat, and the increase is supported by the central scheme. This is not an optimal outcome because discontinuing the assistance, which the central government is not obliged to continue, could lead to a sharp decline in their capital expenditure, with implications for overall growth. Another important outcome highlighted in the report is increasing inequality among states. Those with higher per capita output raise higher revenue and, consequently, have a higher capacity to spend on development. This will continue to widen the gap between rich and poor states, and this could have not only economic consequences but also social implications. Addressing this widening gap will be a serious challenge for policymakers. 

Another important aspect that has received a fair bit of policy attention is the unconditional cash transfers for women. Numbers compiled by PRS show that the number of states providing such assistance has increased from two in 2022-23 to 12 states in 2025-26. In 2025-26, states have collectively budgeted over ₹1.68 trillion, or about 0.5 per cent of gross domestic product (GDP), for such transfers. About half the states providing those are expected to run revenue deficits this financial year. In effect, they are borrowing to distribute cash. Given the political appeal of such schemes, it is reasonable to assume that more states will opt for such schemes, and competitive politics will lead to increasing outlays over time. 

Unconditional transfers mean different things to different sections of people. For political parties, the incentive is clear. It has been argued that such transfers lead to better socioeconomic outcomes. However, it’s worth debating and probing whether this is the best way to improve socioeconomic outcomes, with the given Budget constraints. A clear understanding can improve the allocation of budgetary resources. States collectively had debt worth 27.5 per cent of GDP as of March 2025. The Fiscal Responsibility and Budget Management (FRBM) Review Committee had in 2017 recommended a debt ceiling of 20 per cent for states. Besides, states also guarantee borrowing by their public-sector enterprises. Such borrowings was worth 4.2 per cent of GSDP in 2023-24, and are a risk for state finances. It is also worth noting that some states, such as Himachal Pradesh and Punjab, are in a much deeper fiscal problem than what the aggregate figures show and may require a different set of policy interventions.