Report on State Finances

The recently released Fiscal Health Index by Niti Aayog highlights the improvement in debt-to-GDP ratios for states following the pandemic, while also addressing concerns regarding fiscal health disparities among states. The index provides a comprehensive framework to assess and compare state finances.

Current State of Debt and Fiscal Health

• Improvement in Debt to GDP Ratio: Post-pandemic, state governments have made progress in improving their debt-to-GDP ratios, which surged during the pandemic. The ratio has decreased from 31% in 2021 to 28.5% in 2024, indicating fiscal consolidation and better fiscal management.
• Regional Disparities in Debt Ratios: However, there is significant variation across states, with Odisha and Gujarat maintaining low debt-to-GSDP ratios of 16.3% and 17.9%, respectively, while states like Punjab exhibit high ratios, reaching 46.6%. This disparity emphasizes the need for a better framework for fiscal assessment.
• Niti Aayog's Fiscal Health Index: To address these concerns, Niti Aayog has developed a Fiscal Health Index to assess states' fiscal health across five sub-indices: fiscal prudence, debt sustainability, revenue mobilization, quality of spending, and overall debt index. The framework helps identify areas for improvement and track progress across states.

Challenges and Risks to State Finances

• Concerns Over Debt Sustainability: Despite improvements, the debt levels of several states still exceed the limits suggested by the FRBM review committee, posing risks to debt sustainability. States like West Bengal and Punjab are particularly at risk, with rising debt-to-GSDP ratios.
• Key Issues for Indebted States: Loss-making power distribution companies, unplanned expenditure on "freebies," and the realization of fiscal guarantees remain major risks, especially for highly indebted states. These factors further contribute to fiscal stress and undermine long-term sustainability.
• Urgency for Fiscal Reforms: The report stresses the need for urgent fiscal reforms and targeted interventions to address these issues. High persistent deficits and varied fiscal performance among states highlight the importance of developing time-bound roadmaps for reducing debt levels, particularly for states with high debt burdens.

Conclusion and Recommendations

• Time-Bound Debt Reduction Plans: To ensure sustainable fiscal health, it is crucial for states, especially those with high debt levels, to develop detailed, time-bound plans to reduce debt and address fiscal risks. The Fiscal Health Index can serve as a tool to guide these efforts and track progress over time.
• Need for Targeted Interventions: The Niti Aayog's framework can help identify key fiscal challenges in individual states and recommend targeted interventions, contributing to better fiscal governance and long-term stability for the states with fiscal stress.
• Collaboration for Fiscal Prudence: For effective implementation of these reforms, collaboration among the central government, state governments, and financial institutions is essential. It will help in enhancing fiscal prudence and ensuring that fiscal health improves across all states.

Practice Question:

Q. Analyze the fiscal health of Indian states post-pandemic, focusing on regional disparities in debt-to-GDP ratios. Discuss the significance of the Fiscal Health Index introduced by Niti Aayog and its potential role in promoting fiscal reforms and sustainability across states.