Thanks to petroleum VAT, states look much better
Though state governments are routinely pilloried for being fiscally irresponsible, there has been a steady turnaround in their finances, as the latest RBI report on state finances shows. The turnaround is especially important in the context of implementing goods & services tax (GST) since the changed finances have largely been driven by the value added tax (a third on petroleum products), another tax the states were hesitant about implementing—VAT revenues in FY12 exceeded the budget target by R7,960 crore and are budgeted to grow by a whopping Rs 61,420 crore in FY 13 (that’s 18% above FY12). As a result, most states have already met the deficit targets set for them by the 13th Finance Commission, and handsomely.
From an average of 2.7% in much of the 1990s to 4.1% in the 1998-2004 period, the fiscal deficit to GDP ratio for states fell to 2.3% in the 2004-08 boom years, then rose to 2.7% in the next two years, and is projected to fall to 2.1% in the current financial year. The progress across states, needless to say, is not uniform but the important thing to keep in mind is that in FY11, 3 non-special category states saw a deterioration in their fiscal deficit, as did 4 special category states; in FY12, this rose to 10 non-special category states and 8 special category ones. In FY13, this is budgeted to fall to 8 non-special category states and 2 special category ones.
While there’s little doubt the buoyancy of central taxes has played a big role in state finances looking better, the states have also upped their game. From 5.1% of GDP in the 1990-98 period, the own-tax-revenue of states rose to 6% in FY11 and is projected to rise to 6.3% in FY13. In contrast, the states’ share of central taxes rose from an average of 2.5% of GDP in the 1990-98 period to 2.9% in FY 11 and is budgeted to rise to 3% in FY13. If you add all transfers from the Centre, including the grants-in-aid, these rose from 4.5% of GDP in the 1990-98 period to 5% in FY11 and will likely rise to 5.6% in FY13. All revenues of the states, which includes non-tax revenues as well, rose from 6.8% of GDP to 7.2% and 7.5% during this period. In other words, the share of funds being generated through state budgets has risen significantly. So even if there is a shortfall in central taxes in the current year—R50,000 crore is the figure reckoned—this may not hit the states too badly. A R50,000 crore shortfall means central transfers will fall by around R15,000 crore, so state fiscal deficits will rise from the projected 2.1% of GDP to around 2.25%, a figure similar to that in FY12—assuming state collections and expenditure remain on track.
None of this suggests the states are out of the woods since petroleum-driven buoyancy won’t last forever and costs on electricity tariffs will prove a big burden unless they are passed on—in FY12, power expenditure was a fifth higher than projected (R7,640 crore) and while FY13 has budgeted a 11% hike, this is also likely to be exceeded. In any case, interest costs on SEB debt taken over by states will also add up. The short point, however, is that states have, by and large, been fiscally responsible.