CAG Report on States’ Fiscal Health

The Comptroller and Auditor General of India (CAG) has released its first decadal analysis on the fiscal health of 28 Indian states, revealing significant concerns over the increasing public debt.

1. Debt Growth Over a Decade:

   • States' total public debt increased 3.39 times, from Rs 17.57 lakh crore in 2013-14 to Rs 59.60 lakh crore in 2022-23.

   • Debt as a percentage of Gross State Domestic Product (GSDP) rose from 16.66% to 22.96%, indicating a heavier fiscal burden on states.

2. Debt vs Revenue:

   • States' public debt, on average, has been about 150% of their revenue receipts, peaking at 191% in 2020-21 due to the pandemic.

   • State-wise Variations: Punjab (40.35%), Nagaland (37.15%), and West Bengal (33.70%) had the highest debt ratios, while Odisha (8.45%), Maharashtra (14.64%), and Gujarat (16.37%) had the lowest.

3. Sources of Borrowing:

   • States raised loans via various instruments like market securities, treasury bills, bonds, banks, and RBI’s Ways and Means Advances.

   • The Union government's contribution has grown due to the GST compensation shortfall and special capital expenditure assistance.

4. Golden Rule Violations:

   • The Golden Rule of Fiscal Policy states that borrowing should be for capital investments, not recurrent spending. However, many states, especially Andhra Pradesh and Punjab, used borrowings for day-to-day expenses, rather than capital projects.

Reasons for High State Debt in India

Several structural issues contribute to the growing public debt of states:

1. Reduced Fiscal Autonomy Post-GST:

   • The introduction of GST in 2017 centralized tax collection, reducing states' ability to generate revenue independently.

   • States' share of tax revenues has also declined due to new central cesses and surcharges.

2. Fiscal Imbalance:

   • States collect less than a third of the total revenues but are responsible for nearly two-thirds of the public expenditure, forcing them to borrow heavily.

3. High Reliance on Market Borrowings:

   • Over time, states have increasingly turned to market borrowings, which carry higher interest rates, adding to the financial burden.

4. Contingent Liabilities:

   • States often undertake large infrastructure projects that involve financial guarantees, which can become liabilities in the future, thus increasing fiscal risks.

5. Higher Interest Rates:

   • States face higher borrowing costs compared to the central government, raising the total debt servicing burden.

6. Historical Debt Accumulation:

   • States with a history of high debt levels continue to borrow to service their existing debt, trapping them in a cycle of debt accumulation.

Implications of Rising State Public Debt

The rising debt burden has significant implications for India's fiscal health:

1. Threat to Fiscal Federalism:

   • The rising debt burden reduces states' fiscal autonomy and increases central control over state finances, potentially undermining the federal structure.

2. Fiscal Sustainability Risks:

   • High debt servicing costs limit funds for developmental spending, which can lead to a debt trap where states borrow more to repay existing debt.

3. Impact on Economic Growth:

   • Excessive debt could reduce states' ability to invest in critical sectors like infrastructure, potentially slowing down long-term economic growth.

4. Inflation and Interest Rate Risks:

   • Higher borrowing costs and inflationary pressure could destabilize the economy and increase fiscal stress.

5. Regional Disparities:

   • States with high debt-to-GDP ratios could face increased fiscal distress, exacerbating regional inequalities in fiscal health.

6. Impact on Social Welfare:

   • States may be forced to cut back on welfare programs and public services, potentially harming vulnerable populations.

How Can States Reduce Debt Burden While Maintaining Fiscal Health?

States need to adopt several measures to reduce the debt burden without compromising fiscal health:

1. Enhancing Revenue Generation:

   • States can enhance tax collection efficiency, broaden the tax base, and explore new sources of revenue such as mining royalties, tourism, and public asset monetization.

2. Rationalizing Expenditures:

   • Prioritize capital expenditure for long-term investment, and focus on controlling discretionary spending while streamlining inefficient welfare programs.

3. Debt Restructuring:

   • Refinance high-interest debt and seek lower-cost debt sources like National Small Savings Fund (NSSF), Green Bonds, and Infrastructure Bonds. Set debt ceilings to ensure compliance with the Fiscal Responsibility and Budget Management (FRBM) Act, 2003.

4. Promoting Investment:

   • Encourage Public-Private Partnerships (PPPs) and foreign direct investment (FDI) in key sectors such as infrastructure, renewable energy, and technology.

5. Create Contingency Funds:

   • Establish rainy day funds or contingency funds to manage unforeseen fiscal shocks, reducing the need for excessive borrowing during economic downturns or natural disasters.

6. Enhancing Central-State Fiscal Cooperation:

   • Increase states' share of central revenues as per the Finance Commission recommendations, and ensure timely GST compensation to reduce short-term borrowing needs.

7. Improving Public Financial Management:

   • Implement performance-based budgeting and Fiscal Health Index (FHI) to ensure that state spending is more efficient and aligned with long-term goals.

8. Social Safety Nets:

   • Strengthen social safety nets that protect vulnerable populations while avoiding excessive strain on state budgets.

Conclusion

The findings of the CAG Report highlight a growing concern over the fiscal health of states, with rising debt levels posing risks to economic stability and fiscal autonomy. To manage this, states need to adopt strategies to boost revenue, prioritize capital spending, and improve financial management. While borrowing is essential for development, a balance must be struck to ensure long-term fiscal sustainability without compromising social welfare or economic growth