Chapter 06 – Fiscal Rules: Lessons from the States – Highlights of Economic Survey 2016-17

Fiscal Rules: Lessons from the States

The Economic Survey 2016-17 is tabled in the parliament to mark the beginning of budget session. Here are the major highlights from the Chapter 6 of Economic Survey 2016-17.

The Economic Survey 2016-17 talks about fiscal lessons from the states. Fiscal challenges are mounting because of the Pay Commission recommendations, slowing growth, and rising payments from the UDAY bonds. Moreover, macro-economic conditions will not be as favorable to states as they were in the mid-2000s. All these mandate the need for prudent fiscal management.

Fiscal Responsibility Legislation (FRL) adopted by the states mirrored the FRBM Act.

Highlights of the FRL:

• Fiscal targets were established, which were the same for all states. 

• The 12th Finance Commission allowed states to borrow directly from the market. 

• Finally, broad public discipline was enhanced by introducing new reporting requirements. States were required to publish annual Medium-Term Fiscal Policy reports, which would project deficits over the next three to four years. 


How FRL has fared?

The financial position of the states improved considerably after 2005, based on any measure.

• The average revenue deficit was entirely eliminated.
• The average fiscal deficit was curbed to less than 3 percent of GSDP, just as the FRL had mandated.
• The average debt to GSDP ratio accordingly fell by 10 percentage points to a mere 22 percent of GSDP in 2013.

There are other exogenous factors also responsible for states being able to achieve the above-mentioned figures. These include

1. An acceleration of nominal GDP growth (of 6 percentage points on average) helped boost states’ revenues by about 1 percent of GSDP; 

2. Increased transfers from the Centre of about 1 percent of GSDP both because of the 13th Finance Commission recommendations and the surge in central government revenues; 

3. Reduced interest payments of about 0.9 percent of GSDP on account of the debt restructuring package offered by 
 the Centre; and
4. Reduced need for spending by the states—estimated at about 1.2 percent of GDP—as the Centre took on a number of major social sector expenditures under the Centrally Sponsored Schemes

Impact of FRL:

FRLs clearly made an important difference, both in terms of outcomes and behaviour.

That said, much of the improvement in financial positions was possible because of exogenous factors, most notably assistance from the Centre in the form of increased revenue transfers, the assumption of state debt, and the introduction of centrally sponsored schemes. As a result, the contribution of the FRL may really have been much more subtle than the headline deficit numbers suggests.

*Constitutional provision related to borrowing – Article 293 (3) of the Constitution. Under this clause, States must take consent of the Centre for additional borrowing.

The road ahead:

The Fourteenth Finance Commission (FFC) attempted to shift toward incentives by relaxing some of the FRL limits for better-performing states.

Also Read : Top 10 Key Highlights of Economic Survey 2016-17 for UPSC Aspirants

Also Read: Chapter wise highlights of Economic Survey 2016-17

Chapter 01 – Economic Outlook and Policy Challenges

Chapter 02 – The Economic Vision for Precocious, Cleavaged India

Chapter 03 – Demonetization: To Deify or Demonize?

Chapter 04 – The Festering Twin Balance Sheet Problem

Chapter-05 – Fiscal Framework: The World is Changing, Should India Change Too?

Chapter 06 – Fiscal Rules: Lessons from the States

Chapter 07 – Clothes and Shoes: Can India Reclaim Low Skill Manufacturing?

Chapter 08 – Review of Economic Developments

Chapter 09 – Universal Basic Income

Chapter 10 – Income, Health, and Fertility: Convergence Puzzles

Chapter 11 – One Economic India

Chapter 12 – India on the Move and Churning

Chapter 13 – The ‘Other Indias’ – Highlights of Economic Survey 2016-17

Chapter 14 – From Competitive Federalism to Competitive Sub-Federalism