Much has been written on the trends in economic growth in 2021-22 relative to the pre-pandemic period. However, most of the fiscal analysis has tended to focus on comparing the current year with 2020-21, which provides an inordinately rosy picture. When compared to the pre-pandemic period, there is a clear divergence in the fiscal trends of the Government of India (GoI) and state governments. Further, across states, too, the usage of the ways and means facilities offered by the RBI has varied considerably this year, implying that stretched liquidity is not a universal trend. Moreover, the end of GST compensation — this will acutely impact states with a substantial structural dependence on such flows — is a potential source of greater inter-state divergence from 2022-2023 onwards.
On an encouraging note, the Centre’s fiscal deficit stood at Rs 5.5 trillion in April-October 2021, down from the Rs 7.2 trillion pre-pandemic level (April-October 2019), with incremental revenues outpacing expenditure. Despite the likely revenue foregone from the excise and customs duty relief, we expect the Centre’s net revenue receipts to exceed the budget estimate by Rs 1.7 trillion led by a robust performance of direct taxes and GST, and a substantial surplus transfer from the RBI.
At end-October, 52 per cent of the full year’s expenditure budget had been completed. The second supplementary demand for grants has put forth a substantial net cash outgo of Rs 3 trillion. We expect a portion of this to be absorbed through savings in other demands, neutralising the impact on the fiscal deficit. Dismayingly, though, the realisation of the proceeds of the Bharat Petroleum Corporation Limited disinvestment and Life Insurance Corporation IPO appears increasingly unlikely this year. In the absence of such inflows, the fiscal deficit may print at Rs 16.0-17 trillion, exceeding the budget estimate of Rs 15.1 trillion.
In contrast to the compression displayed by the GoI, the fiscal deficit of the 22 state governments whose provisional fiscal data is available, widened to Rs 3.2 trillion in the first seven months of this year, up from the pre-Covid level of Rs 2.3 trillion. But, this was not led by a meaningful jump in spending. The combined own tax and non-tax revenues of the 22 state governments increased by a mere 4.2 per cent compared to the pre-pandemic level.
Worryingly, central transfers to states fell by Rs 0.9 trillion, with the decline split almost equally between grants and tax devolution, leading to an expansion in the states’ fiscal deficit. The fall in grants was partly structural, with 40 per cent on account of lower GST compensation flows. The reason is straightforward — till 2019-20, the entire GST compensation was financed by the cess collections, which was recorded by the states under grants from the Centre. However, since 2020-21, a portion of the GST compensation is being financed through back-to-back loans from the Centre, which enters state accounts as a financing item.
Despite the healthy expansion in the Centre’s tax revenues, the monthly pattern of devolution to the states was such that it led to a decline in aggregate flows during April-October this year relative to the pre-pandemic level. To address this anomaly, the Centre doubled the devolution to the states to Rs 951 billion in November from Rs 475 billion each in the previous four months.
After releasing the entire Rs 1.6 trillion back-to-back GST compensation loan to the states till October, it released Rs 170 billion GST compensation grants to the states in November 2021 from the cess collections. The higher devolution of taxes, and additional transfer of cess should have supported the states’ cash flows in the third quarter of this year. This was visible in the aggregate gross market borrowing across all the states trailing their indicated level. Moreover, the usage of Ways and Means Advances (WMA) facilities by the state governments/UTs from the RBI declined to 150 days in October 2021 from 188 days in September. Nevertheless, some states such as Andhra Pradesh, Jammu & Kashmir, Manipur and Telangana have repeatedly utilised the WMA facility from the RBI for more than 25 days per month, in several months in FY2022 so far.
At first glance, this seems to suggest a sustained deterioration in the cash flows of specific states. However, it could also indicate a considered change in strategy to avail of this relatively cheaper source of funds (cost is equivalent to the repo rate if outstanding up to three months, beyond which the rate rises to repo plus 1 per cent), shrugging off the erstwhile stigma attached with utilising this window.
Looking ahead, we expect the pending GST compensation for the previous and ongoing year to be released by the Centre to the states next year, in addition to the compensation for February-March 2021-22 and the first quarter of 2022-23 — the final quarter of the original compensation period. Such transfers would boost states’ cash flows in the coming year. This would provide them with a somewhat softer landing after the compensation period ends, affording them a few more months to adjust to the new fiscal reality.
The writer is chief economist, ICRA