India's public spending: Is all that capital expenditure hiding a bigger problem?

India’s capex, however, remains modest compared to other emerging and large economies, even as interest payments on public debt have risen; they now consistently exceed 5% of GDP, indicative of increased pressure on servicing liabilities.

State governments contribute more to India’s total spending than the Union—this is also true for capex—with their share at 4.9% of GDP in 2023-24. Their fiscal health and investment quality are critical to the country’s economic growth.

Capex is internationally measured as direct spending on long-term assets and infrastructure. This expenditure is expected to enhance growth. However, the nature of the capex reported in India has changed in recent years. A significant portion of it has been in the form of financial transfers by way of equity infusions and loans to public sector enterprises (PSEs), state governments and other institutions.

Changing delivery channels: More than a decade ago, such financial transfers in capital spending accounted for close to 40% of the Union’s capex. By 2023-24, this proportion had gone up to two-thirds. Such capex does not represent direct investment in new infrastructure. Also, since this money was routed through other entities, its ultimate use was not always easy to ascertain.

In 2020-21, for example, nearly ₹80,000 crore was extended as a loan to the railways, worth over 18% of that year’s capex. This loan was sanctioned as a “special loan from general revenues for a covid-related resource gap in 2020-21 and to liquidate adverse balance in Public Accounts in 2019-20." The money was partly used for covering pension liabilities and covid-related operational losses. So, in essence, money classified as capex was used to close revenue shortfalls.

States and a problem of misclassification: Such data gaps are more pronounced at the sub-national level. In Maharashtra, nearly ₹3,500 crore of capex in 2022-23 actually comprised grants to local bodies and state-owned companies. In Chhattisgarh, more than a fifth of the reported capex was similarly misclassified. These practices distort the reporting of actual infrastructure investment.

Even Odisha, otherwise fiscally compliant in its reporting, reported capex of ₹43,000 crore in 2023-24, but over ₹4,500 crore of this was spent on operational activities like repairs, renovations, training and advertisements. Some of these funds were even transferred to institutions such as Panchayati Raj bodies, its State Transport Corporation, etc.

According to Government Accounting Rules, such transfers should be recorded as revenue expenditure and not capex. Almost all state accounts in India are distorted by such misclassifications. This leads to misrepresentations of capex, clouding the true fiscal position of states and making a comparative assessment extremely difficult.

Capex as a bailout: The reported capital spending of states has also been widely used to bail out struggling government companies. For example, Tamil Nadu infused over ₹32,000 crore into PSEs with combined net losses of ₹225,000 crore in 2022-23. Similarly, equity investments worth ₹135,000 crore were transferred to five power-sector PSEs of Uttar Pradesh with cumulative losses of ₹31,000 crore.

Such practices risk turning capital spending into a bailout mechanism, rather than a tool for asset building and growth. This problem has consistently been pointed out in audits by the Comptroller and Auditor General of India.

Borrowed funds and a debt trap: A shift in delivery channels for capex raises questions about transparency and the actual impact of these investments. When funds are routed through PSEs or states, it becomes harder to track whether the money is truly building new infrastructure or being diverted to cover other liabilities.

The Centre was aiming to support infrastructure spending with its programme of long-term interest-free loans for states, such as its 2020-launched Special Assistance to States for Capital Investment scheme.

However, states have often used grants and loans to repay existing debts and close revenue gaps, rather than finance new investments. In 2022-23, Andhra Pradesh used nearly 70% of borrowed funds to roll debt over and one-fourth to close revenue shortfalls. Haryana used 85% of borrowed funds similarly, leaving it little fiscal space to undertake fresh capital projects. Such practices increase the risk of states falling into a debt trap.

Why is this a big concern? When capital expenditure is inflated by misclassification or funds are diverted to cover losses and debt, it masks underlying fiscal strains. To ensure that public accounts are transparent so that we have an accurate picture of capex, we need a robust monitoring system for strict adherence to accounting norms.

A proper understanding of India’s capital expenditure requires us to go beyond headline figures to unmask the reality. Sincere oversight and accurate accounting in line with international standards are essential to measure capex and its contribution to lifting the country’s economic growth.

These are the author’s personal views.

The author is a research associate at the Centre for Social and Economic Progress (CSEP).