There is a debate going on all over India regarding the free facilities provided by various state governments. Free goods and services that governments provide free of charge to all or some of their citizens, such as targeted free electricity, transportation or consumer durables, including laptops, cycles, TV sets, grinders and loan waivers, etc.
In a recent paper, we consider the case of farm loan waiver, which is considered a controversial freebie. Between 2001-02 and 2018-19, 11 of India’s 16 major non-special category states announced 19 farm loan waivers, which helped affluent states like Kerala, Punjab, Maharashtra and Tamil Nadu, and poorer states like Uttar Pradesh. represent. Farm loan waivers, which involve cash transfers from the government to lending institutions to clean up their balance sheets, vary widely in the range of 0.9%-4.6% of Gross State Domestic Product (GSDP), according to our calculations. .
The state of Karnataka announced relaxation four times, followed by Chhattisgarh three times. Only five exemptions were announced by the incumbent governments before the election, while 12 were implemented as part of the fulfillment of the electoral manifesto after the election victory. There were only two exemptions between the two elections.
India’s southern states—Karnataka, Tamil Nadu, Kerala, Andhra Pradesh and Telangana—which are relatively affluent, have announced nine out of 19 exemptions, while Bihar and West Bengal have never announced any. In three-fifths of cases where exemptions were announced before the election, the incumbent government lost, suggesting a rational voter. In 11 cases, exemptions were applied to fulfill election promises.
The farm-debt waiver policy is neither specific to a party’s ideology nor a reflection of the partisan model, but arguably fits into the opportunistic political cycle model. It is no surprise that our empirical results show that the timing of farm loan waiver announcements is closely related to the timing of state assembly elections. This points to a pattern of policy manipulation that involves targeting the country’s largest special interest group, i.e. farmer families, in an election year.
However, state governments face a trade-off while implementing loan waiver schemes. Following the adoption of a fiscal rule by the central government, most state governments enacted the Fiscal Responsibility Act (FRL) in 2006 as part of a commitment to reduce their fiscal deficit to less than 3% of GSDP by 2009. Whereas earlier also, the center had control over market borrowings. Official adoption of a fiscal rule by states to fund deficits and indirectly place a cap on their fiscal gaps reduces the incentive for fiscal negligence. An elected government faces a reputational risk of non-compliance with fiscal rule.
Even in the presence of an overall fiscal rule, however, existing governments can shift the structure of government spending without increasing their overall expenditure. A rebate policy increases current spending while allowing the government to reduce capital expenditure, which includes other factors that positively affect agriculture, such as irrigation, which is key to solving the agrarian crisis. or other types of current expenditure, if the total public expenditure is to be maintained in compliance with the fiscal rule.
Our empirical results suggest that loan waivers are associated with an increased revenue deficit, which is adjusted by about one-third reduction in capital outlay to contain the fiscal deficit, given the existence of a fiscal regime. Given its path dependence, low capital expenditure also reduces the quality of government spending in subsequent years. There is a potential under-estimated bias in our estimates as state governments usually spread the loan waiver expenditure over 2-3 years after the waiver is announced. Given that the capital outlay has the greatest multiplier effect on the state’s output, the lower capital expenditure due to farm loan waivers could have far-reaching consequences for the economic development of these states.
How should such fiscal negligence be prevented? Based on the various welfare effects it is difficult to determine which free gifts should be allowed and which should not. At the same time, governments can always come up with new ideas to target special interest groups that allow for a pro-equal relationship. Also, there is no doubt that in a democracy the elected governments have the power to take decisions in this regard.
Instead of banning freebies or trying to curb them outright, a better approach would be to consider adopting an expenditure rule or zero revenue deficit rule, which along with the overall fiscal rule provides basic fiscal responsibility and Was a part of the Budget Management Act 2003. Expenditure rules have been adopted by many countries in conjunction with deficit or debt rules, though with varying degrees of success. Misra et al (2021) suggest a target ratio for revenue expenditure to capital outlay in the range of 4–5, and provide suggestive support for this range and increase in capital outlay or a floor for capital. Offer an option to target a particular rate. Outlay to GDP ratio.
From a policy perspective, future research should explore the feasibility for national and state governments to adopt the expenditure rule or restore the zero revenue deficit rule. This will provide some relaxation within a sound fiscal framework.
Pragati Mittal, a graduate of Madras School of Economics contributed to this article.
Vidya Mahambare and Soumya Dhanraj, respectively, are Professor of Economics and Director (Research), Great Lakes Institute of Management, and Senior Research Fellow, Good Business Lab.
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