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Illustration: Jayachandran/Mint
Illustration: Jayachandran/Mint

Special category financial profligacy

Central assistance to populist states can only come at the cost of others

Prime Minister Narendra Modi may have won the 2014 Lok Sabha election on the promise of delivering higher economic growth and reducing price rise. But the threat of populist politics, that led to faltering growth and inflation in the first place, continues to haunt his government.

Almost immediately after taking charge as the chief minister of residual Andhra Pradesh—or Seemandhra—Bharatiya Janata Party’s ally N. Chandrababu Naidu signed a file implementing the loan-waiver scheme promised to the state’s farmers before the election. The bill is estimated to cost at least R54,000 crore. A few days prior to formally taking charge as chief minister, Naidu also met Modi to request funds to fulfil his election promise and request special category status for his state. Not to be left behind, K. Chandrasekhar Rao, the chief minister of the newly created state of Telangana also met the prime minister and demanded the same status for Telangana.

Going by the criteria to qualify as a “special category" state—currently granted to eleven states by the National Development Council based on states’ resource base, terrain, demographics and strategic importance among others—neither Telangana nor Seemandhra should qualify. So, the demands from Naidu and Rao can only be seen as likely attempts once again at undermining the rationale of central assistance to states.

In Seemandhra’s case if the money asked for was for fulfilling infrastructure gaps—as Hyderabad has gone to Telengana—there would have been some merit in the demand. But Naidu wants to write off farm loans. The demand should not even be considered.

This is particularly so, since the limit on state borrowing imposed by the Reserve Bank of India (RBI) is the only obstacle to Naidu’s plans of throwing R54,000 crore at his pet project. To put the figure in context, this fiscal year, undivided Andhra Pradesh was mandated to limit its borrowings to under R29,000 crore. The special category status that provides more direct grants from the Centre rather than loans is the natural way out of this uneasy situation.

Adding to this, and more importantly, the bigger picture of centre-state relations over the years shows that demands of these leaders could well be symptomatic of the larger tendency among states to flaunt backwardness to command higher central assistance. At the moment, political lobbying offers a chance for regional parties—mainly in the southern part of the country—to bend the centre’s decisions to their favour. Despite the huge majority in the Lok Sabha, the BJP commands only 46 seats in the Rajya Sabha and would require support from regional parties to pass important legislation. The Planning Commission’s move to rescind its decision on Friday rejecting Seemandhra’s demand for special category status further reinforces this belief.

Until the drubbing of the Congress in the recent Lok Sabha election, Bihar under Nitish Kumar remained the clear frontrunner in this race for central assistance—despite the state clocking double-digit growth rates well above the national average.

In fact, during the 11th five-year plan, Bihar grew at an average of 21.9%. The current contenders for central assistance may be new, but if the union government shows itself to be weak, they may be more than willing to continue the precedent of living beyond one’s means set by states like Bihar.

What is required is a level-playing field, wherein Centre-state relations are based on the principle of individual states bearing both the benefits and the costs of their own policies. To this end, fast-tracking the decision of the RBI to reform the pricing of state government bonds, pushing towards a market-based system, would be a good start. Such a system would help penalize spendthrift state governments through higher borrowing rates while allowing fiscally-sound states to borrow at relatively lower rates.

But more than anything else, it is an understanding of the fact that assistance to underperforming, populist states comes at the cost of the fortunes of others that is the key to moving forward. The Centre should let go its urge to use the power to tax and transfer funds as a populist weapon, instead using it as a tool to enforce state-level reforms.

Is there any economic rationale for giving special category status to even more states?

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