Fiscal Deficit

Why in news?

Recently the Confederation of Indian Industry (CII) has suggested that Union Government should not set aggressive targets for fiscal deficit.

What is fiscal deficit?

• Fiscal deficit – Is the difference between total revenue and total expenditure of the government.
  • The fiscal deficit for 2023-24 is 5.8% of the GDP.
  • The average fiscal deficit of Indian States is 3.5% in 2023-24.
• Target – Fiscal deficit target is at 4.9% of GDP for 2024-25 and aims to reduce it to 4.5% for 2025-26.
• Borrowing limit – Union government imposed the net borrowing ceiling of 3.5% of GSDP on states as recommended by the Fifteenth Finance Commission.
• Fiscal Responsibility and Budget Management Act, 2003 – To ensure inter-generational equity in fiscal management.
• It sets limit on fiscal deficit and borrowing for both the Central and State governments.

• State fiscal responsibility acts – Each State may have its own Fiscal Responsibility Act, which further defines the limits and guidelines for borrowing and fiscal management within the State.
• Role of Union Government – It plays a significant role in overseeing fiscal matters, including approving borrowing limits for States based on recommendations from bodies like Finance Commission.

What are the Constitutional provisions related to fiscal management?

• Article 280 – It mandates to constituted Finance Commission every fifth year or earlier constituted to make fiscal matters.
• Article 293 – It grants fiscal autonomy to states, allowing them to borrow only from within the territory of India on guarantee from the Consolidated Fund of the State.
• 7^th Schedule – Fiscal matters are delineated in the 7^th Schedule of the Constitution, with Public Debt of the State falling under the State List, giving states exclusive jurisdiction over this matter.
• Distribution of revenues – Articles 268 to 272 of the Indian Constitution define the distribution of revenues between the Union and the States.
• Article 268 deals with certain duties are levied by the Centre but collected and retained by the States.
• Article 269 mentions about those taxes and duties that are levied and collected by the Centre but assigned in whole to the States.
• Article 270 deals with sharing of the proceeds of all Union taxes between the Centre and the States.
• Grants-in-Aid – The Constitution provides for grants-in-aid to the States from the Central resources.
• Statutory grants – Article 275 provides for compulsory statutory grants-in-aid to the revenues of States.
• Discretionary grants – Article 282 empowers both the Centre and the States to make any grants for any public purpose, even if it is not within their respective legislative competence.
• Other grants – These grants were to be given for a period of 10 years from the commencement of the Constitution.

What are the suggestions by CII to maintain fiscal discipline?

• Fiscal stability reporting – To aid longer-term fiscal planning, the government should consider instituting Fiscal Stability Reporting.
• This could include annual reports on fiscal risks under different stress scenarios and the outlook for fiscal stability.
• The exercise will help forecast potential economic headwinds or tailwinds and assess their impact on the fiscal path.
• State-level fiscal stability reporting – To ensure that states regularly assess and report their fiscal health, helping to identify risks and fiscal vulnerabilities at the state level.
• It would also bring more transparency to state finances and improve fiscal discipline.
• To maintain moderate targets – CII has suggested sticking to the fiscal deficit target of 4.9% of GDP for FY25 and a target of 4.5% for FY26.
• CII has also pointed out that overly aggressive targets beyond the ones mentioned could adversely affect economic growth.
• To allow states to borrow directly from the market – It provides states with more fiscal flexibility and states sometimes provide guarantees for borrowings by State Public Sector Enterprises (PSEs).
• These guarantees can have significant implications for the state's fiscal health and should be carefully managed.
• Credit rating system for States – CII suggests that the Central Government create an independent and transparent credit rating system for states.
• It would incentivize fiscal discipline by linking the cost of borrowing to a state’s fiscal performance.
• If states maintain sound fiscal health, they would be rewarded with better credit ratings, reducing their borrowing costs.
• This would provide an additional layer of accountability and encourage states to maintain fiscal prudence.

Reference

      The Hindu | CII Urges Centre to Stick To Fiscal Deficit Target