Subsidy Rationalization in Indian States

Source-This post on Subsidy Rationalization in Indian States has been created based on the article “Containing subsidies – State govts must rationalise expenditure” published in “Business Standard” on 23 August 2024.

UPSC Syllabus-GS Paper-2- Government Policies and Interventions for Development in various sectors and Issues arising out of their Design and Implementation.

Context– Subsidies in India are essential for welfare and social support, but a recent study shows that state finances have faced major challenges since the pandemic. States are experiencing revenue fluctuations and tighter budgets. For instance, Punjab’s debt increased by 44.23% from 2016 to 2022, now making up 45% of its GDP.

What are the Factors Constraining State Finances?

1) Implementation of Goods and Services Tax (GST):– Following the implementation of GST, state governments have limited capacity to generate additional tax revenues due to reduced residual taxing authority.

2) Committed Expenditures- From 2017 to 2020, committed expenditures, including essential services like education and healthcare, salaries, administrative costs, and obligatory interest payments, accounted for 60% to 80% of total expenditures in most states.

3) Burden of Explicit Subsidies– Explicit subsidies, such as financial aid and insurance, strain state budgets. Funding these through borrowing is unsustainable because it limits resources for important infrastructure and investment and slows economic growth.

Read More- Farm Subsidies in India

What are the Challenges in Subsidy Management?

The report’s case studies of seven states reveal common issues contributing to the high levels of explicit subsidies: –

A) Poor Targeting: Subsidies are often not well-targeted, leading to inefficiencies.

B) Lack of Transparency: There is a lack of transparency in how subsidies are distributed and utilized.

C) Debt Relief and Free Power Supply: Debt relief for farmers and free power provisions have pushed state electricity boards into financial trouble.

D) Interest Subsidies: Subsidies on loans further strain state finances.

What should be the way forward?

1) Imperative for Fiscal Space Enhancement: –There is a need for a careful reassessment and rationalization of subsidies to better align them with their intended objectives and ensure more efficient use of public funds.

2) GST Reform and Fiscal Capacity -The ongoing fiscal pressure in some states underscores the need for a prompt rationalization of GST rates and slabs to boost revenue and enhance fiscal capacity at both the Union and state levels.

Question for practice

What factors are limiting state finances, and what challenges are faced in managing subsidies?