The RBI study on State Finances released on March 30, 2011, is the only source of state-wise data and analysis. The study is a must-read for all Budget officers. Budget-making has become a challenge, as India seeks to reconcile high growth with macro-economic stability.
FISCAL CONSOLIDATION
The most important conclusion of the RBI study is that the rule-based fiscal policy adopted by States improved fiscal discipline. Therefore, the challenge before State governments is to revert to fiscal consolidation.
The RBI study suggests that the higher devolutions recommended by the Thirteenth Finance Commission (FC) will benefit State finances. Factors likely to have significant implications for fiscal consolidation at the States' level include implementation of GST, States' own efforts towards mobilising non-tax revenues and prioritisation and rationalisation of expenditure.
The Study further states that for credible progress towards fiscal consolidation, States need to amend their FRBM Acts. They also need to review their tariff policies, especially those relating to the power and irrigation sectors. For successful implementation of GST, the Centre and the States need to agree on certain issues and equip themselves with administrative capacity and IT infrastructure.
Better allocation of expenditure along with improved transparency and accountability through strict audit procedures is also necessary to ensure improved fiscal management.
States need to put in place an effective forecasting and monitoring mechanism for cash inflows and outflows so that a need-based approach is followed for market borrowings and the interest cost of cash surpluses is minimised. The strengthening of State Finance Commissions is essential to ensure the allocation of resources to local bodies, keeping in view their developmental role for the purpose of inclusive growth.
MEDIUM-TERM CHALLENGES
Budget makers have to prepare a credible fiscal roadmap on the lines recommended by the Thirteenth FC, which include (i) the overall macroeconomic performance of States (ii) devolutions from the Centre and (iii) the efforts by States to mobilise own revenues effectively and compress least productive revenue expenditure.
In addition, efforts are to be made to improve non-tax revenues. States need to examine the commercial viability of certain services, such as power and irrigation, in a medium to long-term perspective. The cost recovery (measured as revenue receipts as a ratio to non-Plan revenue expenditure) in power and irrigation sectors remains a medium term challenge.
With regard to GST the challenges before the budget maker are issues like its dual structure and the dispute resolution mechanism. While the Constitutional Amendment Bill for GST introduced on March 22, 2011, will address thorny issues, Budget-makers needs to be proactive in their approach towards GST.
The Budget-maker is required to identify unwarranted items of revenue expenditure which have low growth and welfare implications. .
The challenges for better expenditure management lie in the creation of local body ombudspersons, fiscal councils and independent evaluation organisations in the medium term.
SURPLUS CASH BALANCES
The Budget maker should realise that the accumulation of cash beyond a level reflects inefficiency, leading to an avoidable interest burden. The Budget maker may consider using their surplus cash balances for bullet repayments of market borrowings raised for debt swaps during the period 2002-2005, which are likely to become due from 2011-12 .They need to have an effective forecasting and monitoring mechanism for cash inflows and outflows
Disclosure and Dissemination in State Budgets : Budget-makers should publish information on outstanding liabilities, contingent liabilities and off-budget borrowings. The data on wages and salaries and ‘operations and maintenance' are spread over a number of heads in the State budgets, such as administrative services, economic services and social services. These items may be given as a memo item in the ‘Budget at a Glance'.
SUGGESTIONS FOR RBI
The study on State Finance was released in March, after the presentation of the Budget. The RBI should consider publishing the study before the next year's budget-making process starts, ideally in September. This will help the budget makers ascertain the strengths and weaknesses relative to a benchmark.
The RBI may consider providing an analytical presentation of financing the fiscal deficit with a break-up of Consolidated Fund borrowing and public account borrowing. The head ‘small savings and provident fund' may be looked into and could be changed to only provident fund on account of changes in Small Savings treatment.
(The author is a professor of Economics at K. J. Somaiya Institute of Management Studies and Research.)