The monsoon may be on the wane, but it’s still raining freebies across the country. With the Aam Aadmi Party attempting to make inroads into Narendra Modi and Bharatiya Janata Party bastion Gujarat, AAP national convenor Arvind Kejriwal is pulling out all the stops to woo the electorate. The Delhi chief minister is following the template he honed to perfection to win first the national capital, and more recently Punjab, by a landslide. Among the generous doles he has promised the Gujarat voter are free electricity of up to 300 units a month, a Rs 1,000 monthly allowance for all women above 18, the guarantee of a job to every youth and, until then, a monthly unemployment dole of Rs 3,000.
Kejriwal is not the only one to unabashedly announce what he calls welfare measures but what the prime minister has been denouncing as the revdi (a sesame-coated sweet rock candy distributed free during festivals) or freebie culture for a while now. Few, for example, can beat Jagan Mohan Reddy, the chief minister of Andhra Pradesh, who has launched a number of welfare schemes since coming to power in 2019 on the back of such announcements. So the mother of a student gets financial aid of Rs 15,000 to encourage parents to send their children to school, farmers receive free or concessional power supply or cash transfers and every farmer gets annual financial assistance of Rs 7,500, self-owned taxi and auto drivers Rs 24,000 and every handloom-owning weaver family Rs 10,000. The largesse will cost the state Rs 27,451 crore—2.1 per cent of its GSDP (gross state domestic product)—threatening to significantly slow down the state’s economic growth rate.
And lest you think that only Opposition-ruled states indulge their voters, there’s Madhya Pradesh, where the Shivraj Singh Chouhan-led BJP government this year will bear the expense of Rs 21,000 crore, or 1.6 per cent of its GSDP, to subsidise electricity to both farmers and domestic users. In Uttar Pradesh, Yogi Adityanath, months before the 2022 assembly election, had announced that he would distribute 10 million free smartphones and tablets to youth. He made good on that promise in the first phase itself, before the election, when he gave away 100,000 pieces to final-year college students. The cost? In excess of Rs 2,000 crore.
CODE RED FOR STATES
Freebies are by no means a new phenomenon in India. They have been an inalienable part of electoral politics, with Tamil Nadu taking an early lead with electoral sops ranging from colour TV sets to mixer-grinders, even gold. Some have justified it as a contract between a party and the people. It was only when the Reserve Bank of India (RBI), in its June bulletin, carried out a risk analysis of state finances in the wake of the Sri Lankan crisis, training a sharp lens on heavily-indebted states, that the focus shifted to what it classified as “non-merit subsidies or freebies”. Sri Lanka’s economic meltdown was a result of the financial mismanagement of its political leadership.
Delhi CM Kejriwal launching the ‘Kejriwal ka guarantee card’ in 2020; (Photo: Getty Images)
The slowdown in tax revenues exacerbated by the Covid-19 pandemic and the ballooning subsidy bill is now threatening to turn many states into “mini-Lankas”, as a senior official put it. Compiled by a team from the RBI’s Department of Economic and Policy Research under the guidance of deputy governor Dr Michael Debabrata Patra, the bulletin warned that in five of India’s most indebted states—Bihar, Kerala, Punjab, Rajasthan and West Bengal—the growth in debt has far outpaced their GSDP in the past five years and is no longer sustainable. The debt to GSDP ratio has breached the danger mark of 30 per cent (as set by the 15th finance commission; the FRBM (Fiscal Responsibility and Budget Management) review committee recommends total state debt to GDP ratio at 20 per cent for the current fisc) in these states and they are teetering on the edge of a fiscal cliff. What this means is that states will now have to borrow just to honour their current debt repayment commitments, pushing them deeper into indebtedness. The bulletin also says that at least half a dozen other states are likely to go down the same road if remedial action is not taken.
The RBI classifies provision of free electricity, water and public transportation, waiver of pending utility bills and farm loans, as non-merit subsidies or freebies
Among the culprits for this sorry state of affairs are committed expenses (which include salaries, pensions, interest repayments, administrative expenses, etc.), debt of electricity distribution companies, or discoms, and state subsidies. It is this last that the PM dubbed the revdi culture while inaugurating the Bundelkhand expressway in UP on July 16, warning that it was endangering the development of the country. “Those with revdi culture will never build new expressways, new airports or defence corridors for you,” he said. “Together, we must defeat this mentality and remove the revdi culture from the politics of the country.” His remarks elicited a furious reaction from Kejriwal, who saw the statement as an indirect attack on his poll promises in Gujarat. In his retort, the Delhi CM said: “Why is there sudden opposition to free education, healthcare, medicines, food, etc.? Is everything okay with the Centre’s finances?” Justifying his measures, he said, “A Rs 1,000 per month allowance is not revdi. It is your right. People’s money should go to the people, not in the Swiss banks.”
Graphics by Tanmoy Chakraborty | Source: RBI Bulletin
Kejriwal then cleverly turned the tables on Modi by drawing attention to the various central welfare schemes the prime minister has announced and executed since coming to power in 2014 and accused him of favouring big business. The Modi government was forced to loosen its purse strings during the pandemic to provide free foodgrains and cooking gas to the poor and cash doles of Rs 500 a month for women (in bank accounts opened under the PM Jan Dhan Yojana) and for the elderly under the Pradhan Mantri Garib Kalyan Yojana. As expected, the Centre breached the FRBM target of 3 per cent in the Covid years—its fiscal deficit was 9.3 per cent in FY21 and 6.7 per cent in FY22; it was 4.5 per cent the year before the pandemic broke out.
Realising that Kejriwal had stolen a march over the central government by interpreting the PM’s revdi remark as a jibe against health and education benefits—two areas AAP claims to have made a difference in, in the national capital—Union finance minister Nirmala Sitharaman was quick clarify: “Nobody is saying free benefits to the poor are wrong. How can health and education be freebies? They must be a priority for every government.” The objection, the finance minister went on to elaborate, was to the fact that “many political parties promise free television sets, kitchenware, gold jewellery, free mobile phones, free electricity up to certain units, washing machines, laptops, sarees, free internet, etc. to lure the voters”. These, she said, breed inefficiencies into the system, and need to be discouraged.
The UP CM handing a tab to a student; (Photo: ANI)
Meanwhile, the freebies debate reached the highest court of the land, which was hearing a PIL filed by BJP leader Ashwini Upadhyaya against it. A Supreme Court bench comprising Chief Justice N.V. Ramana and Justices Krishna Murari and Hima Kohli first recommended the formation of an expert committee to look into freebies offered by political parties to voters but later decided to put it off. A new three-judge bench will now take up pleas to review a 2013 judgment that said some freebies were related to the directive principles guiding a state’s policies.
Freebies vs. welfare
Successive governments at the Centre and in the states have made social protection through public policy a key driver of their economic model. It was the second government of the United Progressive Alliance that in a departure from the welfare-based approach to development switched to a rights-based one. Under this, food, education, and health became a right of the people rather than state favours. “India moved from welfare to rights,” says Ajit Ranade, economist and vice-chancellor of the Gokhale Institute of Politics and Economy in Pune. “We implemented the right to food, employment, education. Despite a public distribution system, we had a high degree of hunger. UPA’s approach was to convert them into rights, the Modi government has taken it one step further.” Subsidy spends by the Modi government include those on healthcare, education, electricity, fertilisers, food and interest payments.
The RBI in its definition has classified “expenditure which brings economic benefits, such as the public distribution system, employment guarantee schemes, state support for education and health” as public or merit goods. Provision of free electricity, water and public transportation, waiver of pending utility bills and farm loans, on the other hand, could be treated as non-merit subsidies or freebies. These potentially undermine the credit culture, distort prices through cross-subsidisation, erode incentives for private investment, disincentivise work at the current wage rate, thereby precipitating a drop in the labour force participation.
Meanwhile, state leaders have come up with their own definitions of freebies. In BJP-ruled MP for instance, Chief Minister Chouhan defined the revdi culture as “one just to get votes in which parties begin to compete, with one saying we will give a fridge and the other saying they will distribute televisions”. Opposition-ruled states beg to differ. Rajasthan chief minister Ashok Gehlot says his welfare measures, including electricity bill relief, “are to empower people, and anyone calling these freebies is degrading our public and treating them as beggars”. Amit Mitra, the former finance minister of West Bengal, accused the Centre of doublespeak and said the government’s own welfare schemes could be construed as freebies under Modi’s revdi classification. He believes that “cash transfers and free facilities for poor, downtrodden people generate demand and boost economic growth”.
It was UPA-II that moved from a welfare-based approach to development to one based on rights. food, health and education thus became people’s rights, not state favours
The beneficial effects of welfare spending have been well documented. Citing the example of the national rural employment guarantee scheme, Shamika Ravi, vice president, economic policy, at the Observer Research Foundation, New Delhi, says: “We have enough literature to show that programmes like MNREGA have contributed to the declining poverty in the states.” She adds a rider, however: “You must spend on development for equitable growth.” Scandinavian countries, she says, are welfare states because they have generated massive wealth. Economic growth, according to her, is a necessary condition. She holds Punjab as an example of how a once-prosperous state lost out on economic growth. With an emphasis on the country’s food security and the state’s overarching role in it, industrial sops were replaced with ones for farmers and agriculture. Having to massively cross-subsidise agriculture, industry in Punjab moved to Haryana, Rajasthan and Himachal Pradesh, compromising Punjab’s economic growth.
THE DEBT TRAP
Since there’s no such thing as a free lunch, state governments over the years have been redirecting revenue receipts to freebies from subsidies. This has placed an unsustainable debt burden on states. The cumulative debt of the states was 31.3 per cent of the GDP in FY21, and almost touched 32 per cent in 2022. They will have to work really hard to meet the 20 per cent target the FRBM review committee has set for FY23. The RBI’s bulletin, too, noted how subsidies have crowded out resources for other useful purposes. While subsidies accounted for an average 12 per cent of states’ expenditure, other committed expenditures, such as salaries and pensions, along with social sector expenditures, also contributed to the stressed balance-sheets of states.
Telangana CM KCR announces Dalit Bandhu scheme; (Photo: ANI)
Officials in various states confessed that their balance-sheets were also bleeding because they borrowed funds to compensate for the revenue lost due to Covid restrictions and taking over the debts of their discoms under the 2015 UDAY scheme. The ever-bloating discom dues indeed remain a constant source of worry. Power subsidies are one of the biggest pain points for the managers of state funds. In Punjab, Andhra Pradesh and Telangana, the governments have been unable to discontinue free power despite several efforts. The latest to join the bandwagon is the Yogi government in UP. Just before the assembly polls, the chief minister announced a 50 per cent rebate in electricity rates for farmers and urban users who own private tube wells. It is expected to benefit close to 1.2 million consumers, but at a cost of Rs 2,200 crore. Discontinuing free or heavily subsidised power is a fraught decision for any political party. Some, like the DMK, also think such subsidies are necessary. In its petition before the apex court, the party maintained that schemes such as free electricity “can have a multi-dimensional effect on a poor household. Electricity can provide lighting, heating and cooling, resulting in a better standard of living. It can facilitate a child in education and studies”.
CAN STATES BECOME MINI-LANKAS?
The states are staring at twin challenges—the revenue deficit and a fiscal one. Their revenue is not expanding as much as they would like it to, whereas their expenses to fund social sector commitments are galloping. The states spend an average 90 per cent of their revenues to fund expenditure like salaries, pensions, subsidies in the form of freebies, leaving less for capital creation that has a higher multiplier effect on growth. The RBI paper shows that states spent an average of 3.1 per cent of their GSDP on capital expenditure when it should ideally be more than 10 per cent to encourage robust growth. Now that GST compensation has ended from June 30, the struggle for funds is likely to increase, especially in states where GST compensation exceeded 35 per cent of their revenue. Revenues from the states’ own resources have also stagnated. On average, they have remained around 7 per cent of the GDP in the past five years. The share of interest payments in revenue receipts, meanwhile, is an alarmingly high 20 per cent in most states.
Experts advocate several levels of institutionalised checks, including statutory constraints, CAG audits and the Election Commission, so that state govts don’t go astray
Could a state in India go bankrupt like the nation of Sri Lanka did? Unlikely. The state governments are technically part of the Union government. Whenever a state is in financial crisis, the Centre comes to its rescue, either by releasing its dues in advance or by allowing it to raise additional loans. Such a strategy may prevent a state government from defaulting on debt servicing or payment of staff salaries, but pushes it deeper into debt and deficit. “Such cumulative profligacy on the part of states has the potential to jeopardise the country’s macro fiscal stability. It does the same,” says Aditya Malik of CIEU, or the Council for International Economic Understanding, in Delhi.
At the Dharamsala conference of chief secretaries of all states on June 15 and 16, finance secretary T.V. Somanathan made a presentation, in which he red-flagged the problem areas for states. Along with usual suspects like inefficient subsidies and reducing losses in the electricity supply chain, he also advocated reforms in revenue collection of local bodies, along with rationalising institutions and schemes.
THE WAYS OUT
To shore up the dwindling revenues of the states, the N.K. Singh-led 15th finance commission had recommended a gradual increase in property taxes, regularly raising fees for various government services like water, in addition to raising the excise duty on liquor and reforming local bodies and their record-keeping. The low accountability and autonomy of city agencies and the lack of an enabling environment compounds woes and adds more pressure on state finances, keeping them inefficient.
The central government, meanwhile, hopes to lead by example. To rationalise its subsidy spend, the government restricted it to Rs 3.17 lakh crore for the current fisc, 26.6 per cent lower than the revised estimates for FY22. The government spent Rs 4.33 lakh crore against the budget estimate of Rs 3.69 lakh crore in the previous fisc. Economists have hailed the move as a responsible one, where the government has prioritised “growth over political populism”. They believe that the Centre should step in to constrain states too from overspending. Under Article 293(4), the Government of India may impose such conditions as it deems fit while granting consent to a state for raising loans. “The Centre has the levers to control the states and force them to stay in their limits. This is needed to push them to bring more transparency and accountability in their book-keeping,” says Ashwani Mahajan, economist and co-convenor of the Swadeshi Jagran Manch.
Most experts also say that there is a cost to subsidies and one has to decide between which ones are necessary and which ones are not. They believe that as long as the subsidy-induced welfare gain exceeds the tax-induced welfare loss, subsidisation may be recommended. “Whether it is a private company or a government, ideally any debt should pay for itself by generating future revenues for debt servicing,” former RBI governor D. Subbarao said in a recent media article. “On the other hand, if borrowed money is spent on current consumption with no impact on future growth, we will be passing on the burden of repayment to our children—an egregious sin by any reckoning.” He advocates several levels of institutionalised checks so that governments do not go astray, including at the legislature level, CAG audits, the market, and the Election Commission. “Define any unrequited transfer, including any good or service delivered below the cost price, as a freebie,” he states, adding that there should also be a statutory hard budget constraint written into the FRBM Acts of the Centre and the states on how much they spend on such freebies. Subbarao’s advice is sound. Now the Centre and states must follow it to avoid falling off the financial precipice.