States have a large role in ensuring capital formation

Source– The post is based on the article “States have a large role in ensuring capital formation” published in the mint on 3rd March 2023.

Syllabus: GS3- Government budgeting

Relevance: Capital expenditure

News- The Central government is continuing with its focus on capital expenditure. Capital expenditure by states has also drawn the attention of policymakers.

How has capital expenditure by states gained importance in recent times?

The combined spending of Indian states on capital expenditure now exceeds that of the central government.

In 2021-22, this figure combined for states and Union territories was ₹10.5 trillion. The Centre’s effective capital expenditure that year was ₹8.4 trillion.

Theme of this year’s RBI report on state finances is ‘Capital Formation in India: The Role of States’. It is an eloquent acknowledgement of the power of states in this context.

What are issues related to capital expenditure by states?

Capital expenditure by states is neither uniform nor necessarily related to the economic size of a particular state.

Uttar Pradesh gross state domestic product (GSDP) was estimated to be ₹20.5 trillion in 2022-23. The budget for capital expenditure was ₹1.24 trillion. Maharashtra with higher GSDP figures of ₹35 trillion budgeted for capital spending of ₹65,000 crore.

States are unable to spend the full budgeted amount of capital expenditure, despite having sufficient resources. They have a tendency to postpone capital expenditure till revenue streams firm up.

What is the way forward to improve the quality of capital expenditure by states?

There is a need to address this uneven inclination of states or capacity for capital expenditure.

The ultimate aim of all capital expenditure is to enhance the productive capacity of the economy. The nature of state capital expenditure is also vitally important. It should align with central capital expenditure to optimise long term enhancements of economic capacity.

For example, UP may hike its road building programme to amplify the impact of the efforts of the National Highway Authority of India. Maharashtra and TN may enhance allocations to urban bodies.

The quality and speed of expenditure also deserves equal attention. States would need to step up their execution capacity and establish an enabling regulatory environment.

Land availability, clearances, logistics and communication, project management, stakeholder engagement and local capacities are all critical determinants that need attention.

The planning and budgeting cycle of states also has to be aligned with the fund releases so as to fully utilise the resources within the time available. They need to spend fully the budgeted capital amounts uniformly over the year.

The RBI report mentions that states should mainstream capital expenditure planning rather than treating them as residuals and meeting budgetary targets from this expenditure.