Chief ministers argue that if the Centre could dish out thousands of crore of rupees to cover up its mismanagement in the Unit Trust of India (UTI), why could it not share at least half of the burden of the Fifth Pay Commission There is quite a bit of truth in this. Till 1996, the finances of the state governments were not particularly badly stretched, at least by Indian standards. But once the salary hikes kicked in, along with spiralling pension claims, the body blow was of such singular severity that hoping to return to the pre-1996 position, for all practical purposes, became a Herculean task. The hopelessness of the situation dissolved whatever resolve there might have been there to take hard decisions.
Maybe it was a superb bit of cunning on the part of the Indian communists who through this device dealt a telling blow to their class enemies, the fiscal fundamentalists, or perhaps it was just one more bad idea from an unending supply. In the subsequent years, we have heard considerable smooth talk spun out on remarkably little action. Hope, it is said, springs eternal in the human breast. And so it has been with fiscal management: we continued to carry on as usual, not doing what needed to be done, hoping that somehow it would all work out well in the end. It never does.
Last Monday, we had said that bailouts create moral hazard and undermine accountability an organising principle in a functional society. What is sauce for the goose, is sauce for the gander. What the UTI has got, and maybe IFCI and IDBI too might get, why should the state governments be denied In all fairness, the gander has a better claim. At least, state governments did not get into their present mess because they lent money and invested in the companies of the rich and friends of the powerful. In contrast, they paid higher salaries and pensions to millions of ordinary Indians than their revenues could support; they provided free power, free irrigation, free education (of poor quality, no doubt) to millions of citizens. Only, part of the lucre went to finance lucrative works contracts. Like the central FIs, state governments too were in the distribution-with-no-accountability game: but it was much more egalitarian!
Just to recapitulate. The combined deficit of the Centre and state governments (including the losses of state electricity utilities) was 7 per cent of gross domestic product in 1996, a figure that has been running at over 11.5 per cent for the last few years. Surely, it is a bit pointless to lay the blame for all of this on the states alone. The Centre has culpability, besides inventing the absurdity of the Fifth Pay Commission. It provided little leadership in pushing and cajoling (and helping where necessary) the state governments out of their difficulties. Unless, that is, pretty speeches urging better fiscal management count for leadership.
Incidentally, unlike the bailout of FIs (faking it, by showing it below the line doesnt count), a transfer of financial burden from the states to the Centre does not impact the size of the overall fiscal deficit it simply redistributes it between the two levels of government. The writing is on the wall. No more bailouts; and fiscal consolidation desperately needs a bail-in. By the Centre and states, shorn of rhetoric and petty grandstanding. Else, we are all going to go under, as India lurches towards a nightmare federation of failed states.
The author is economic advisor to ICRA (Investment Information and Credit Rating Agency)