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Business News/ Opinion / The fiscal devolution wheel turns
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The fiscal devolution wheel turns

While the fiscal devolution is set to continue, the political and administrative dialogue are at their weakest point

Union finance minister Arun Jaitley. The 14th Finance Commission in 2015 recommended greater devolution of funds to state governments. Photo: Hindustan TimesPremium
Union finance minister Arun Jaitley. The 14th Finance Commission in 2015 recommended greater devolution of funds to state governments. Photo: Hindustan Times

March 2016 was an important month for state budgets in India. It marked the first time that the states could properly reflect the greater fiscal devolution recommended by the 14th Finance Commission (there was no time for states to even digest the news last year). This increased allocation places greater responsibility on states, while at the same time reducing the extent and scope of many centrally sponsored schemes.

Most large states—Maharashtra, Bihar, Telangana, Uttar Pradesh (UP), Andhra Pradesh, Karnataka and Gujarat—passed their 2016-17 budgets in respective legislatures. Two large states going to the polls during the summer, Tamil Nadu and West Bengal, presented interim budgets called vote-on-account. The annual budget sizes range from approximately 3.5 trillion for UP to under 100 billion for most north-eastern states, Sikkim and Puducherry. UP’s budget is about 50 times that of the smallest state.

The Reserve Bank of India (RBI) puts out the only timely and comprehensive data on the budget of each state and the combined position of all states. Even though this information on all state budgets is not yet available for 2015-16, I estimate that state revenue surpluses will reduce from about 0.5% of combined gross state domestic product (GSDP) to about 0.1%, primary deficits will deteriorate marginally to about -1% and fiscal deficits will deteriorate to about 2.6%.

The fiscal situation of states shows some deterioration from last year for several reasons. One reason is that with a decline in nominal gross domestic product, state revenues have generally come down. Declining state share of value-added taxes (VAT) on petroleum products is another reason. In addition, 10 states are participating in a voluntary, centrally designed scheme called Ujwal Discom Assurance Yojana (UDAY). UDAY is meant to be a state-led bailout for state-owned power distribution companies called discoms.

Under the scheme, states will “nationalize" up to 75% of the debt of discoms and will be permitted to issue bonds to finance them. Fiscal deficit norms will be relaxed beyond 3% for participating states. Discoms will be required to refinance the remaining 25% under better terms. The UDAY scheme expects to operate through four initiatives—improving operational efficiency, reduction in the cost of power, reduction in interest costs and enhancing financial discipline through alignment with state finances. Last week, the RBI conducted an over-the-counter auction and placed approximately 1 trillion of these bonds in the market.

At 25% of total discom debt, this is an important step forward for the power and banking sectors. Only time will tell whether it also is a progressive step for state finances. Its success will lie in whether future contingent liabilities of states (debt of discoms) are eliminated by prudent and effective management of the discoms.

The fiscal devolution is set to continue and perhaps even increase in coming years. However, the institutional structures for political and administrative dialogue are at their weakest point in decades. The administrative discussion took place in the former Planning Commission. The political discussion was meant to take place in a forum called the National Development Council (NDC), chaired by the prime minister and whose members include all cabinet ministers and all chief ministers. The early influence of the NDC (like the Planning Commission, it is a non-constitutional body) has gradually eroded over the years as India became more Union and less federal.

The Narendra Modi government has abolished both the NDC and the Planning Commission. The Planning Commission in its new avatar is the NITI Aayog—meant to be more think tank, less implementing agency. The NDC has not been replaced. While competitive federalism can play out one state at a time, cooperative federalism will require a political institution with representation from all states to discuss matters related to development, security and devolution. One way to operationalize this is to convert the governing council of NITI Aayog chaired by the prime minister into a periodic and effective centre-state political reconciliation forum. Without a forum of this type, we will have financial federalism (devolution) but no real political federalism.

While removing the socialist planning character of these institutions, it is important that we build NITI Aayog into a comprehensive and consistent data repository as well as a think tank that recommends both new and best practices. State budgets should be organized into a single, modern chart-of-accounts that is uploaded from state resource planning systems (SRPs) directly to NITI Aayog. SRPs like enterprise resource planning systems for enterprises should be mandatory for state finances. Considerable progress has already been made in conceptualizing a framework for expenditures, the biggest part of state and local finances.

This Expenditure Information Network (EIN) should form the core of the SRPs and should become the basis for both longitudinal (across time) and cross-sectional (across state) comparisons. Over time, the SRPs can be used for many other purposes, including leave and pension management, procurement and fixed asset inventories.

PS: “Ask nothing; want nothing in return. Give what you have to give; it will come back to you, but do not think of that now," said Swami Vivekananda.

Narayan Ramachandran is chairman, InKlude Labs.

Comments are welcome at narayan@livemint.com. To read Narayan Ramachandran’s previous columns, go to www.livemint.com/avisiblehand

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Published: 04 Apr 2016, 12:05 AM IST
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