Home / Economy / What ails Indian states' capital expenditure

The pandemic forced several countries to open their purse strings to prop up their economies last year. In India, serious fiscal support came only in 2021 through the Union Budget’s plans for higher capital expenditure. However, halfway into the fiscal, capex, especially by states, has been far from what an economy pushed back by two years needs, Mint calculations show.

Capex matters due to its significant multiplier effect on future growth. The Centre’s capex, though inconsistent, was largely on track by October-end, meeting 46% of the full-year aim of 5.54 trillion, data released on Tuesday showed. However, capex by the Centre has limited impact: state governments’ capex has a much larger multiplier effect on growth, past research has found .

So how do state governments fare? States, too, announced a sizable capex boost, with Karnataka, Uttar Pradesh and Gujarat promising 33-88% growth. At least 11 states projected a double-digit rise. However, barring Telangana, a revenue-surplus state, many are dragging their feet, having spent only a third or less of their budgeted capex by September, shows an analysis of the latest available data for 25 states.

Lost autonomy in the goods and services tax (GST) regime and fiscal deficit compulsions made it tough for states to meet capex commitments even before the pandemic. The Centre has urged states for more capex this year, even extending special interest-free loans for the purpose. But these won’t be enough. Further relaxations may help, but borrowing too much will only raise future interest bills, said economist Pronab Sen.

All this puts the onus on the Centre itself to support states’ capex to push stronger growth recovery in the years to come.

Eleventh-hour push?

This year, it can be argued that some states could not push capex in the first quarter due to the disruptions caused by the second wave of the covid-19 pandemic for nearly two months. The weak capex in April and May proved to be a drag on the aggregate figure for the first half of the year. There was an improvement thereafter: major states spent 79% higher on capital accounts in the September quarter as compared to the June quarter, the analysis shows.

One would hope that states will push capex further in the second half of the fiscal, especially the last quarter. Past trends show that’s the norm: states do a bulk of the spending on capital accounts in the March quarter. The question is, will they be able to repeat that trend this year as well, considering the size of their capex goals and persistent issues on the revenue-generation front?

Lost revenue autonomy

States often find themselves in a tough spot due to the lost autonomy in the GST framework. When faced with an income crunch, toning down capex plans is an easier way to meet fiscal deficit goals. States can no longer raise taxes either to fulfil capex commitments. This became more pronounced last year when a squeezed GST compensation fund left states with limited options such as raising money from the markets.

The 15th Finance Commission has recommended that the Centre share 41% of its divisible tax pool with states, but that pool excludes cesses and surcharges. This means that the benefit of the Centre raising cesses and surcharges doesn’t reach states. Out of its gross tax collections, which includes these levies, the Centre has planned just a 30% share for states. That, too, stands at just 23% till October.

In a recent report on states’ finances, ICRA noted that to boost states’ capex, monthly tax devolution needed to be stepped up to avoid back-ended release at the end of the year.

Emerging challenges

Interim pandemic-related measures such as borrowing relaxations cannot resolve long-term issues. “The special packages and relaxed borrowing limits are gone now," said Sen. “From both the revenue and the grant side, states are getting much less this year. This reduction will fall on states’ capex."

On top of these issues, the GST compensation for states will come to an end in June 2022, leaving them on their own in terms of revenue generation. This will be a key risk for states such as Punjab, Gujarat, Karnataka and Haryana, which rely heavily on GST compensation, according to ICRA.

While states may increase capex hereon, pre-pandemic trends show a tendency to undershoot budgeted targets to keep deficit in check. “Sometimes the Budget estimates are more like a wishlist, and the implementation capacity lags what has been articulated," said Aditi Nayar, chief economist at ICRA. If states are to beat this historical jinx, the Centre will have to play a major role.

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