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States to face tough challenge on deficits if they follow Centre

States to face tough challenge on deficits if they follow Centre
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First Published: Tue, Mar 25 2008. 12 26 AM IST
Updated: Tue, Mar 25 2008. 12 26 AM IST
The Sixth Pay Commission recommendations are set to turn the clock back on the Fiscal Responsibility and Budget Maintenance Act, a law that the Union government and all but two states have passed to keep their budget deficits low and manageable.
Implementing the recommended pay hikes will set the Centre back by Rs22,646 crore in 2008-09, or 0.4% of the gross domestic product (GDP). And, if the states follow suit in an election year, that could drain another 1.5- 3%, says M. Govinda Rao, director, National Institute of Public Finance and Policy.
If most of the payouts are met from borrowings, it could lead to a consolidated government fiscal deficit of 7-7.5% of GDP, going against the FRBM Act that limits such deficits to 3% of GDP.
The impact on state budgets tends to be larger as state governments employ 7.2 million people compared with 2.9 million at the Centre. The payout ratio for the states is 2.5-3 times that of the Centre.
The combined deficit had touched a record 10% after the Fifth Pay Commission hikes in 1997. This coincided with a sharp decline in central tax revenues, leading to lower transfers to states, and put most state governments deeply in the red. By 2006-07, the states were out of the woods, with a small revenue surplus and 2.5-3% of fiscal deficits.
“Out of the 20 states that went in for full pay hike implementation in 1997, 18 have balanced their books in 2006-07,” said Crisil Ltd chief economist Dharmakirti Joshi. “There is a dramatic difference.”
Still, said Rao, the pay commission impact will hurt the states, especially if they pay arrears. Still, “not all states follow the Central pay commission,” he noted. “Karnataka, for instance, has never.”
M.B. Prakash, a former Karnataka civil servant who headed the state’s fifth pay commission, said, “Karnataka has not accepted the Central wage structures so far.” The state revised pay rules, which included a 17.5% increase in basic pay, last May, resulting in an outgo of Rs1,500-1,800 crore in 2007-08.
Tamil Nadu finance secretary K. Gnanadesikan declined to comment. The state budget has already provided for the pay hikes in a 12.75% higher revenue expenditure of Rs51,421.57 crore. The state’s salary and pension bill comes to 76% of its own tax revenue.
Some states, including Kerala and Gujarat, have already sought Central assistance to help them tide over the increased payouts. These two states each spend Rs9,000-odd crore paying salaries every year, while West Bengal will spend about double of this amount or Rs18,123 crore in 2008-09.
Government officials refused to comment in West Bengal, which, along with Kerala, has not passed the FRBM Act, and posted a fiscal deficit of 4% in 2007-08.
Ajay Sukumaran in Bangalore, Vidhya Sivaramakrishnan in Chennai, Santanu Chakraborty in Kolkata, Ajayan in Kochi, Sunil Raghu in Ahmedabad contributed to this story.
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First Published: Tue, Mar 25 2008. 12 26 AM IST