State Finances and Fiscal Challenges in India
The Reserve Bank of India's (RBI) recent report on state finances reveals significant insights into the fiscal dynamics of Indian states.
Consolidated Fiscal Deficit
- The consolidated fiscal deficit of states is projected to widen to 3.3% of GDP in 2024-25.
- Key factors include slower revenue growth and higher capital expenditure.
Expenditure Quality and Revenue Vulnerabilities
- Improved expenditure quality with increased capital outlay and compressed revenue expenditure.
- This improvement relies heavily on central support and borrowing.
- Revenue vulnerabilities persist due to a narrow tax base.
Demographic Factors
- The working-age population will peak around 2031, with several states already past this point.
- By 2036, over 15% of the population in more than half of Indian states will be aged 60 and above.
- Kerala, Tamil Nadu, Punjab, and Himachal Pradesh have significant ageing populations, affecting fiscal outcomes.
Fiscal Implications of Ageing
- Ageing states face weaker revenue prospects and rising expenditure pressures, especially pension spending.
- Pension spending can account for up to 30% of social-sector expenditure in these states.
- High debt-to-GSDP ratios and interest burdens are prominent in ageing states.
Challenges for Younger States
- Younger states like Uttar Pradesh, Bihar, Madhya Pradesh, and Rajasthan will continue to see growth in the working-age population beyond 2031.
- These states encounter fiscal weaknesses, with lower own-revenue capacity and higher central dependency.
Policy Recommendations
- Current fiscal frameworks may not suit different demographic trajectories.
- Policy responses should be explicit, targeting long-term fiscal resilience.
- Finance Commissions could incorporate ageing and old-age dependency factors in transfers.
- Pension systems require strict institutional rules to prevent unfunded liabilities.
- Enhancing migration, female labor force participation, and longer working lives could help.
Overall, both Union and state governments are urged to enhance fiscal capacity to address emerging challenges, such as the increasing debt stock, expected to reach 29.2% of GDP this year.
