vi trend and composition expenditure of state governments · economies like india, public...

1. Introduction

6.1 Under the federal system in India, the Stategovernments have a major responsibility withregard to the provision of economic and socialinfrastructure12. The State governments accountsfor around 60 per cent of the combined expenditureof the Centre and States reflecting the vital rolethat the States play in the growth and developmentof the economy. In the following discussion, anattempt is made to examine trends in variouscategories of expenditure by State governments.An inter-temporal analysis of the expenditurepattern of the States not only signifies the changingpolicy emphasis of State governments but alsohelps to assess whether any convergence is takingplace across the States in terms of allocation ofexpenditure. As a special theme for the presentstudy, an analysis of the trend and pattern of States’expenditure is presented in this Chapter. The themeis aimed at a focused analysis of the expenditureof State governments covering the period 1980-81

to 2009-10. The analysis is structured into thefollowing sections. Section I deals with the overalltrend in aggregate expenditure of Stategovernments followed by Section II and Section IIIdiscussing the trend and composition of revenueexpenditure and capital expenditure, respectively.Expenditure pattern in terms of development andnon-development expenditure of Stategovernments is discussed in Section IV. Section Vbrings out trend in major categories of social sectorspending of the State governments. State-wisetrend in major categories of expenditure isdiscussed in Section VI. In Section VII, an attemptis made to examine whether major categories ofexpenditure have shown any convergence in percapita terms across States.

6.2 Public expenditure plays an important rolein achieving goals of growth, development, equityand stabil i ty. In the context of developingeconomies like India, public expenditure assumesimportance in order to ensure an equitable

This thematic Chapter provides an analysis of the expenditure of State governments covering theperiod 1980-81 to 2009-10. It also attempts to examine whether major categories of expenditure haveshown any convergence in per capita terms across the States. The composition of aggregate expenditureshows that revenue expenditure increased steadily during the 1980s and 1990s. However, there hasbeen a modest decline in its share since the beginning of the 2000s mainly on account of a decline indevelopment revenue expenditure. The ever increasing trend in the committed expenditure-GDPratio declined during 2005-10 mostly owing to a decline in the interest payment-GDP ratio. Reflectingthe emphasis of States on quality of expenditure, the capital outlay-GDP ratio has been rising since2000-01. Deviating from the declining trend till 2004-05, the average share of developmentexpenditure in aggregate expenditure has risen significantly during 2005-10. A State-wise analysisshows that the trend in major categories of expenditure varies across States. An analysis further showsthat in per capita terms, the levels of capital outlay, development expenditure and social sectorexpenditure have shown some convergence across the States.

Expenditure of State Governments:Trend and CompositionVI

12 The Union List consists of 97 subjects (e.g., defence, atomic energy, railway and telecommunication and insurance). The State Listconsists of 66 subjects (e.g., police, local government, public health and taxes on agricultural income). There are 47 subjects in theCommon or Concurrent List (e.g., education, forests, vital statistics including registration of births and deaths and economic and socialplanning). The unspecified or residuary powers rest with the Central Government. Any change in these lists can be made only by anamendment to the Constitution.

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distribution of resources. The redistributive powersof the State emanate from the normative argumentsin favor of greater equality to be achieved throughpublic expenditure. The level and composition ofpublic expenditure can have macroeconomic as wellsocial implications. Policy makers and someresearchers have argued that expenditure on growth-enhancing functions could enhance future revenueand justify the provision of ‘fiscal space’ in the Budget.However, there are no simple ways to identify thegrowth-maximising composition of public expenditure(Semmler et al, 2007)13. Given the empirical evidencethat a link between public expenditure and growth iscontingent upon the nature of expenditure, anassessment of the trends and composition of publicexpenditure assumes importance.

2. Overall Trend

6.3 Trend analysis shows that the aggregateexpenditure of State governments as percentageof GDP accelerated during the 1980s anddecelerated during the 1990s. Aggregateexpenditure as percentage of GDP moved upwardduring 2000-05. However, compression in theconsolidated expenditure of State governments canbe observed during 2005-10 mainly on account ofsome rationalisation of revenue expenditure duringthe fiscal responsibility legislation (FRL) period.This is evident from a decline in the RE-GDP ratiofrom 13.3 per cent in 2000-05 to 12.4 per centduring 2005-10 (Table VI.1 and Chart VI.1).

6.4 In terms of the expenditure policy, not onlythe level of expenditure, but the structure alsomatters. The former reflects the amount ofdistort ions, while the latter has importantconsequences for the effectiveness of theexpenditure policy (Kastele, 2005). Broadly, allexpenditure of the government, which does notresult in the creation of physical or financial assets,is treated as revenue expenditure. As far as a broadcomposition of the total expenditure of Stategovernments is concerned, revenue spendingshowed a steady increase during the 1980s and

1990s. Since the beginning of the 2000s, there hasbeen a modest decline in the share of revenueexpenditure to total expenditure. With theconcomitant r ise in the share of capi talexpenditure to total expenditure from 16.8 per centduring 1995-00 to 21.2 per cent during 2000-05,there was an increase in the capital outlay by 0.2percentage points during the same period (Table VI.2and Chart VI.2). However, the share of capitaloutlay in aggregate expenditure rose sharply from

13 Semmler, Willi, et al. (2007), ‘Fiscal Policy, Public Expenditure Composition, and Growth Theory and Empirics’, World Bank PolicyResearch Working Paper 4405.

Table VI.1: Trend in Expenditure ofthe State Governments

(Per cent of GDP)

Period Revenue Capital of which: TotalExpenditure Expenditure Capital Expenditure

Outlay

1 2 3 4 5

1980-85 10.6 4.5 2.0 15.11985-90 12.2 3.9 1.8 16.11990-95 12.7 3.2 1.5 15.91995-2000 12.4 2.5 1.4 14.92000-05 13.3 3.6 1.6 17.02005-10 12.4 3.5 2.4 15.9

CARG 14.9 12.4 14.4 14.2

CARG: Compound Annual Rate of Growth.Source: Budget Documents of the State Governments.

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Expenditure of State Governments: Trend and Composition

State Finances : A Study of Budgets of 2009-10

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9.6 per cent during 2000-05 to 15.4 per cent during2005-10. Nevertheless, the spending patterns ofState governments show the persisting dominationof revenue expenditure with marginal significance

for their long term growth potential as they aregenerally considered to be consumption spendingof the State governments unlike capitalexpenditure. Moreover, the rising share of revenueexpenditure reflects structural r igidit ies inexpenditure patterns making expendituremanagement of State governments difficult.Furthermore, the compound annual rate of growth(CARG) in revenue expenditure during 1980-81 to2009-10 is found to be higher than capital expenditure.

3. Revenue Expenditure

6.5 The composition of aggregate expenditure byState governments in terms of revenue and capitalexpenditure is reflective of the quality of expenditureincurred. The hypothesis that improvements in thecomposition of public expenditure have positiverepercussions for growth is widely supported inliterature. It is generally found that fiscal consolidationachieved through compressing selected revenueexpenditures tend to trigger higher growth rates thanadjustments based on revenue increases and cuts inmore productive spending (Pang et al., 2007)14. Thus,it is important to examine whether the trend andcomposition of revenue expenditure has undergoneany change over the period. As far as the compositionof revenue expenditure is concerned, it continues tobe dominated by development expenditure whichmainly comprises spending by States on social andeconomic services. Development expenditureaccounted for 71 per cent of the total revenueexpenditure of the States during 1980-85. However,its share in total revenue expenditure steadily declinedtill 2000-05 (54.7 per cent) before rising marginally insubsequent years (58.0 per cent during 2005-10).The share of non-development revenue expenditurein total revenue expenditure witnessed aconcomitant increase till 2004-05 and a moderatedecline thereafter (Chart VI.3). Developmentrevenue expenditure continues to be dominated bysocial services. Social services—accounting for 57.5per cent of the total development revenue expenditureduring 1980-85—have witnessed a marginal increasein their share since 1995-2000. In contrast, the

Table VI.2: Composition of AggregateExpenditure of the State Governments

(Rs. Crore)

Period Revenue Capital of which: TotalExpenditure Expenditure Capital Expenditure

Outlay

1 2 3 4 5

1980-85 20,855 9,140 3,943 29,994(69.5) (30.5) (13.1) (100.0)

1985-90 45,672 14,405 6,694 60,077(76.0) (24.0) (11.1) (100.0)

1985-90 98,009 24,261 11,907 1,22,270(80.2) (19.8) (9.7) (100.0)

1995-2000 1,93,812 39,625 21,064 2,33,441(83.0) (17.0) (9.0) (100.0)

2000-05 3,40,752 96,545 41,880 4,37,297(77.9) (22.1) (9.6) (100.0)

2005-10 6,17,788 1,75,709 1,22,397 7,93,498(77.9) (22.1) (15.4) (100.0)

Note : 1. Expenditure in absolute terms represents averages ofrespective sub-periods.

2. Figure in brackets is percentage share of revenueexpenditure, capital expenditure and capital outlay in totalexpenditure of the State Governments.

Source : Budget Documents of the State Governments.

14 Pang Gaobo, Pinto Brian and Wes Maria (2007): ‘India Rising - Faster Growth, Lower Indebtedness’, Policy Research Working PaperSeries 4241, The World Bank, Washington.

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average share of economic services recorded amarginal increase during 1985-90 and 1990-95 butdeclined in subsequent sub-periods (Chart VI.4).

6.6 Development revenue expenditure aspercentage to GDP (DRE-GDP) which stood at 7.5per cent during 1980-85, rose to 8.5 per cent during1985-90 due to a rise in revenue spending on socialas well as economic services. However, the DRE-GDP ratio has witnessed a secular decline since 1990-95 mainly due to declining revenue expenditure on

economic services as percentage to GDP. Revenueexpenditure on social services as percentage to GDPhas also declined since 1985-90 albeit at a slowerpace compared to economic services. The majorcategories of revenue expenditure on social services,viz., education, sports, art and culture; medical andpublic health; and water supply and sanitationwitnessed a decline in terms of GDP. Among theeconomic services, agriculture and allied activitiesaccounted for a major decline in the DRE-GDP ratioover the years. However, the States have graduallyincreased their revenue spending on the energy sectorfrom 0.1 per cent in 1980-85 to 0.7 per cent of GDPduring 2000-05 (Table VI.3). Non-developmentrevenue expenditure as percentage to GDP (NDRE-GDP) has shown an upward trend over the period ofanalysis. The NDRE-GDP ratio doubled from 2.9 percent during 1980-85 to 5.8 per cent during 2000-05before declining marginally to 4.9 per cent during2005-10. Revenue expenditure in the form of grants-in-aid and contributions as compensation andassignments to local bodies and Panchayati RajInstitutions (PRIs) witnessed an increase from 0.1 percent of GDP during 1980-95 to 0.2 per cent during1995-2005 and further to 0.3 per cent during 2005-10.Since the total own revenue of the local bodies, whichwere assigned wide expenditure obligations after the73rd and 74th Constitutional amendments, did notshow any perceptible improvement, State governmentshave been increasingly financing local bodies.

6.7 Interest payments, administrative servicesand pensions account for a dominant portion of thenon-development revenue expenditure. Suchexpenditure is of a committed nature and has a firstcharge on the government’s resources. Thus, suchexpenditure renders the expenditure managementprocess less flexible for the State governments.Committed expenditure as percentage to GDP rosesubstantially from 2.3 per cent during 1980-85 to5.0 per cent during 2000-05. This was mainly onaccount of a sharp increase in interest paymentsby State governments to service their outstandingdebts comprising mainly of loans from the Centre,internal debt, small savings and provident funds.Between 1980-85 and 2000-05, around 66 per centof the total increase in committed expenditure couldbe attributed to a rise in interest payments. The



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debt servicing burden soared with high costborrowings financing current expenditure amidstgrowing fiscal imbalances, particularly during 1986-87 to 1997-98. In fact, the burgeoning fiscal gapfed on itself as the ratio of interest payments torevenue receipts of the States also deterioratedsharply during the 1990s. While expenditure onadministrative services as percentage of GDPremained broadly stable during the period ofanalysis, expenditure on pensions by Stategovernments as percentage of GDP increasedsignificantly (Table VI.4 and Charts VI.5 and VI.6).During 2005-10, committed expenditure moderatedowing to a decline in the interest payment-GDP ratio

Table VI.3: Composition of Revenue Expenditure(Per cent to GDP)

Items 1980-85 1985-90 1990-95 1995-2000 2000-05 2005-10

1 2 3 4 5 6 7

I. Development Expenditure 7.5 8.5 8.3 7.5 7.3 7.2A. Social Services 4.3 4.9 4.6 4.5 4.4 4.4

of which:1. Education, Sports, Art and Culture 2.2 2.6 2.6 2.5 2.5 2.22. Medical and Public Health 1.0 0.8 0.8 0.6 0.5 0.53. Family Welfare – – – 0.1 0.1 0.14. Water Supply and Sanitation – 0.3 0.3 0.3 0.2 0.25. Housing 0.1 0.1 0.1 0.1 0.1 0.16. Urban Development – 0.1 0.1 0.1 0.1 0.37. Welfare of SCs, STs and Other Backward Classes – 0.3 0.3 0.3 0.3 0.38. Social Security and Welfare 0.6 0.2 0.2 0.2 0.2 0.4B. Economic Services (1 to 9) 3.2 3.6 3.7 3.0 2.9 2.81. Agriculture and Allied Activities 1.9 1.0 1.0 0.8 0.7 0.62. Rural Development – 0.8 0.8 0.6 0.5 0.53. Special Area Programmes – 0.1 0.1 0.1 – –4. Irrigation and Flood Control 0.6 0.7 0.6 0.6 0.4 0.35. Energy 0.1 0.2 0.4 0.4 0.7 0.66. Industry and Minerals 0.2 0.2 0.2 0.1 0.1 0.17. Transport and Communications 0.4 0.4 0.4 0.3 0.3 0.38. Science, Technology and Environment – – – – – –9. General Economic Services – 0.2 0.2 0.1 0.2 0.2

II. Non-development ExpenditureGeneral services (1 to 6) 2.9 3.6 4.2 4.7 5.8 4.91. Organs of State 0.1 0.1 0.1 0.1 0.1 0.12. Fiscal Services 0.4 0.3 0.3 0.3 0.4 0.23. Interest Payments and Servicing of Debt 1.0 1.4 1.8 2.1 2.8 2.24. Administrative Services 1.1 1.2 1.2 1.1 1.1 1.05. Pensions 0.3 0.5 0.6 0.8 1.2 1.26. Miscellaneous General Services 0.1 – 0.2 0.2 0.2 0.2

III. Grants-in-Aid and Contributions 0.1 0.1 0.1 0.2 0.2 0.3of which:Compensation and Assignments to LBs and PRIs 0.1 0.1 0.1 0.2 0.2 0.3

Total Revenue Expenditure (I+II+III) 10.6 12.2 12.7 12.4 13.3 12.4

Source: Budget Documents of the State Governments.

Table VI.4: Committed Expenditure andits Composition

(Per cent of GDP)

Period Interest Administra- Pensions CommittedPayments tive Services Expenditure

1 2 3 4 5

1980-85 0.9 1.1 0.3 2.3

1985-90 1.3 1.2 0.5 3.0

1990-95 1.7 1.2 0.6 3.5

1995-2000 2.0 1.1 0.8 3.9

2000-05 2.7 1.1 1.2 5.0

2005-10 2.1 1.0 1.2 4.3

Source : Budget Documents of the State Governments.

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enabling a reduction in the non-developmentcomponent of revenue expenditure as well as thetotal revenue expenditure-GDP ratio.

6.8 Before the initiation of the National SmallSaving Fund, loans from the Centre were a majorsource of financing of fiscal deficits of the States till1998-99. Thus, interest payment on these loansremained a major component in the total interestpayments of the States till 2003-04. Thereafter, therehas been a significant decline in interest paymenton loans from the Centre partly due to the Debt SwapScheme (DSS) operated during 2002-05 and theDebt Consolidation and Relief Facility (DCRF)

Table VI.5: Trend in Interest Payments of State Governments(Per cent of GDP)

Item 1980-85 1985-90 1990-95 1995-2000 2000-05 2005-10

1 2 3 4 5 6 7

Interest Payments (i to iv)* 0.9 1.3 1.7 2.0 2.7 2.1i) Interest on Loans from the Centre 0.6 0.8 1.0 1.1 1.1 0.3ii) Interest on Internal Debt 0.2 0.2 0.3 0.4 1.2 1.4

of which:Interest on Market Loans 0.1 0.2 0.3 0.4 0.5 0.5Interest on NSSF 0.1 0.8

iii) Interest on Small Savings, Provident Funds, etc. 0.1 0.2 0.3 0.3 0.4 0.3iv) Others – – – 0.1 0.1 0.1

– : Nil / Negligible / Not Applicable. * : Due to rounding of figures may differ as given in other Tables.Source: Budget Documents of the State Governments.

recommended by the TwFC (Table VI.5). A similartrend has been observed in interest payment aspercentage to revenue receipts (IP-RR). The IP-RRratio moved progressively from 7.5 per cent during1980-81 to 26.0 per cent during 2003-04.Subsequently, there has been a considerable declinein the IP-RR ratio to 15.1 per cent during 2008-09(Chart VI.7). This broadly complies with thesustainability level of below 15.0 per cent prescribedwith respect to the IP-RR ratio of the States by theTwFC. Interest payments as percentage of GDP alsoshowed a secular increasing trend till 2003-04 anda declining trend thereafter (Chart VI.8).



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6.9 In the light of the Centre’s decision todiscontinue Plan loans to the States with effect fromApril 2005 as recommended by the TwFC, theStates had to mobilise resources for funding theirGFD mainly through market borrowings and specialsecurities issued to NSSF. Consequently, interestpayments on market loans and NSSF loans have

gradually risen in the recent period. Since theinterest rate for NSSF loans is the highest of allthe borrowings of the States, it puts enormous strainon interest payments. However, interest paymenton small savings and provident funds aspercentage to GDP has remained almost stable inrecent years.

4. Capital Expenditure

6.10 Capital expenditure assumes importance asit has a lasting impact on growth than revenueexpenditure. If spent efficiently, it also ensures amore productive economy and enhances thegovernment’s net worth arising from augmentedrevenues due to higher expected GDP in the future.Likewise, an efficient allocation of the government’scapital expenditure can impact private investmentprovided it does not raise cost of borrowings forprivate investors. Thus, capital outlay forinfrastructure is expected to enhance productivitylevels of private investment leading to crowding inof private investment.

6.11 During 1980-2010, the share of capitalexpenditure in total expenditure of States exhibiteda marginal increase and that too mainly in recentyears. Capital outlay15 as a percentage to GDP(CO-GDP), an indicator of investment activities ofState governments, began to show a declining trendin the early 1980s which has become pronouncedparticularly since 1987-88. During this period, theStates slashed their investment activities faced withrevenue deficit from 1987-88 onwards. There wasa slowing down of investments by Stategovernments reflecting a further shifting of Stateexpenditure towards revenue expenditure largelydue to continued growth in non-Plan expenditureon account of interest payments, pensions andadministrative services. However, this trend hasreversed in recent years and the evolving patternof expenditure, particularly during the post-2002-03period, indicates a sharp increase in capital-outlayas percentage to GDP. An inter-temporalcomparison shows that the CO-GDP ratio declined

15 Capital outlay includes capital expenditure on social and economic services.

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from 2.0 per cent during 1980-85 to 1.8 per centduring 1985-90. The decline became moreentrenched during the 1990s with the deterioratingfiscal situation of the States. However, with theoverall improvement in State finances, the Stateshave been able to scale up capital outlay asreflected in the CO-GDP ratio of 2.4 per cent during2005-10 (Chart VI.9).

6.12 Another encouraging trend that hasemerged in recent years is the rising share of capitaloutlay in total capital expenditure of Stategovernments. The share of capital outlay in totalcapital expenditure increased from 44.4 per centin 1980-81 to 68.6 per cent during 2009-10. Thisreflects an increasing role of State governments ingenerating productive capacity and enhancing theirgrowth potential. Although growth in capital outlayhas shown fluctuating trends over the years, CARGduring 1980-81 to 2009-10 was found to be higherthan that of capital expenditure of Stategovernments (Chart VI.10).

6.13 Capital outlay mainly comprises spendingon developmental activities pertaining to social andeconomic services. Developmental capital outlayas percentage to GDP (DCO-GDP) persistentlydeclined from 2.0 per cent during 1980-85 to 1.3per cent during 1995-2000. However, withincreasing focus of State governments on economic

services pertaining to rural development, irrigationactivities, energy and transport in subsequentyears, the DCO-GDP ratio rose to 1.6 per centduring 2000-05 and 2.4 per cent during 2005-10.Developmental capital outlay on economic servicesas percentage to GDP rose from 1.1 per cent during1995-2000 to 1.9 per cent during 2005-10. Thedevelopment capital outlay of State governmentson the transport sector as percentage to GDP haswitnessed a considerable increase, particularlysince the beginning of the 2000s. Similarly, anincrease in development capital outlay on theenergy sector as percentage to GDP from 0.15 percent to 0.30 per cent during 2009-10 reflects theState governments’ focus on meeting their energyrequirements. Furthermore, developmental capitaloutlay on social services as percentage to GDPalso increased from 0.3 per cent to 0.5 per centduring 1995-2000 and 2005-10. Within the socialservices, capital outlay was mainly allocated in thesectors, viz., water supply and sanitation followedby education, sports, art and culture and medicaland public health (Appendix Table 22).

6.14 Capital expenditure towards repayment ofloans to the Centre has surged, particularly since2002-03. Under the Debt Swap Scheme (2002-03 to2004-05), the States had to pre-pay their high-costdebt to the Centre through additional market



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borrowings and proceeds from small savings. Incontrast, the capital expenditure of State governmentsthrough loans and advances for development andnon-development purposes has shown a persistentdowntrend during the period of analysis. In particular,loans and advances for developmental purposesdwindled from 1.39 per cent of GDP during 1980-85to 0.34 per cent during 2005-10.

Development and Non-development Expenditure16

6.15 Another way to analyse the Stategovernments’ expenditures is to classify themunder: ‘development’ and ‘non-development’expenditures. Development expenditure has abeneficial impact and leads to economic and socialdevelopment. Non-development expenditure, onthe other hand, captures administrative expenditureand interest expenditure. Thus, such a classificationof expenditure is important to capture the qualitativechanges taking places in the expenditure patternsof State governments. Since developmentexpenditure relates to both economic and socialservices, its trends broadly capture the evolving roleof State governments in the economic and socialdevelopment of the economy.

6.16 A composition of aggregate expenditure byState governments shows that it has been largely

16 Development expenditure comprises expenditure on social services (e.g. education, sports, art and culture, medical and public health,family welfare, water supply and sanitation, housing, urban development, welfare of Scheduled Castes, Scheduled Tribes and otherBackward Classes, social security and welfare) and economic services (e.g, agriculture and allied activities, rural development, specialarea programmes, major and medium irrigation and flood control, energy, industry and minerals, transport, communications, science,technology and environment and general economic services. Non-development expenditure includes expenditure on general servicesincluding organs of the State, fiscal services, interest payments and servicing of debt, administrative services, pensions and miscellaneousgeneral services.

spent for developmental purposes (Chart VI.11).Development expenditure as percentage of GDP (DE-GDP), in general, showed a declining trend during1987-88 and 2004-05. However, the DE-GDP ratiorose thereafter. While development capital outlay asa percentage of GDP has shown a significant riseduring 2000-05 and 2005-10, development revenueexpenditure as percentage of GDP continued to showa declining trend (Table VI.6 and Chart VI.12).

Table VI.6: Composition of Development Expenditure(Per cent of GDP)

Item 1980-85 1985-90 1990-95 1995-2000 2000-05 2005-10 CARG

1 2 3 4 5 6 7 8

Development Expenditure (i+ii) 10.9 11.4 10.7 9.4 9.4 9.8 13.7Of which:(i) Revenue 7.5 8.5 8.3 7.5 7.3 7.2 14.2(ii) Capital 3.4 2.9 2.4 1.9 2.1 2.6 12.5Non-Development Expenditure 3.1 3.7 4.3 4.8 5.9 5.0 16.1Others 1.3 1.1 0.9 0.7 1.7 1.1 12.2

Total 15.3 16.1 15.9 14.9 17.0 15.9 14.2

Source: Budget Documents of the State Governments

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6.17 As can be seen from Chart VI.13, the shareof economic services in aggregate developmentexpenditure of the States was higher than that ofsocial services during the 1980s and 1990s. Duringthe subsequent period, however, the average shareof economic services in the aggregate developmentexpenditure of the States was lower than that ofsocial services.

Social Sector Expenditure

6.18 Social sector expenditure is called for as mostof the sectors falling under this have large externalitiesor spillover benefits in areas such as education, publichealthcare and water and sanitation. In the Indiancontext, the State governments are entrusted withhigher responsibilities by the Constitution (SeventhSchedule, Article 246) with respect to social spendingsuch as on health, education and family welfare. Asfar as allocation to social sector expenditure by Stategovernments as percentage to GDP (SSE-GDP) isconcerned, it shot up sharply during the second halfof the 1980s and showed some moderation duringthe 1990s. It has often been pointed out that socialsector expenditure was the most vulnerable toreduction in the total budget even before India’sreforms began (Tsujita, 2005)17. A number of studiesfound that social sector expenditure declined underpressure to reduce fiscal deficits following economicreforms during the 1990s. Although, there was somepick up in the SSE-GDP ratio during the terminal yearsof the 1990s, on an average basis, it remained at 5.5per cent which was lower than that in 1990-95. Duringthe first half of the 2000s, the SSE-GDP ratio wasbroadly stable at 5.5 per cent. However, social sectorexpenditure as percentage to GDP accelerated during2005-10 (Chart VI.14).


17 Tsujita, Yuko (2005), “Economic Reform and Social Secot Expenditures: A Study of Fifteen Indian States 1980/81-1999/2000”, DiscussionPaper No. 31, Institute of Developing Economies - Japan External Trade Organisation, Japan.


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6.19 A major chunk of the social sectorexpenditure has been in the form of revenueexpenditure rather than capital outlay.Nevertheless, the share of capital outlay in totalsocial sector expenditure showed someimprovement during 2000-05 and 2005-10. Atpresent, capital outlay forms approximately 10 percent of the total social sector expenditure. Thisindicates that only 10 per cent of the total socialsector expenditure (i.e., capital expenditurecomprising of capital outlay and loans andadvances) is allocated towards investment in socialinfrastructure. The fiscal priority given to the socialsector (i.e., SSE to total expenditure ratio) whichaveraged at around 31.6 per cent during 1980-85increased to 38.0 per cent during 1985-90.However, it moderated somewhat during the 1990sand declined significantly during the first half of the2000s albeit with an upward trend since 2005-06.

6.20 During the 1980s, key social sectors likerural development, education, sports, art andculture, water supply and sanitation and welfareof Scheduled Castes, Scheduled Tribes andBackward Classes seemed to have receivedparticular attention. Although there was somemoderation in the SSE-GDP ratio during the1990s as the deteriorating fiscal position of theStates led to resource gaps during and spendingon some social sectors were adversely affected.Despite this, key social sectors, viz., education,sports, art and culture, medical and public healthand rural development continued to receive arelat ively greater al location of expenditure(Appendix Table 23).

5. State-wise Analysis of Expenditure

6.21 State government expenditure aspercentage to GSDP (SGE-GSDP ratio) is foundto be significantly higher in the special categoryStates, viz., Sikkim, Arunachal Pradesh, Mizoram,Manipur and Jammu and Kashmir. The role of Stategovernment expenditure in the economic activities

of these States appears to be significant. One ofthe reasons for the higher SGE-GSDP ratio inspecial category States could be higher resourcetransfers by the Central Government as comparedwith other States. However, the SGE-GSDP ratiois found to be lower than 20 per cent in States likeMaharashtra, Gujarat, Haryana, Kerala, Tamil Naduand West Bengal (Statement 49).

6.22 In case of States with per capita incomebelow the average, viz., (Sikkim, Jammu andKashmir and Bihar), the SGE-GSDP ratio rosesharply during 1980-85 and 2005-10. In contrast,during the same period, the SGE-GSDP ratioshowed a decline in States, viz., Tamil Nadu,Meghalaya, Gujarat, Maharashtra, Kerala, Manipur,Haryana and Nagaland (Chart VI.15). This indicatesthat the size of the economy of these States (i.e.,GSDP) grew faster than the size of spending bythe respective State governments. However, ananalysis shows that the average change in theSGE-GSDP ratio during 2005-10 over 1985-90 wasnot statistically significant at 5 per cent18. Thus, ingeneral, the size of State governments has notchanged significantly over the period of analysis.

18 Based on Difference of Means Test, i.e., T= (Mt-Mt-1)/S.E. Where Mt and Mt-1 imply the average SGE-GSDP ratio across States during2005-10 and 1980-85 respectively. S.E. is standard error.

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6.23 Most of the special category States spentmore in the form of per capita expenditure than thenational average during 2005-10. In contrast, thehigh per capita income States, viz., Punjab,Haryana, Gujarat, Kerala and Tamil Nadu spentless than the national average during the sameperiod. The rank correlation between the State-wiseSGE-GSDP ratio and per capita aggregateexpenditure for 2005-10 turns out to be 0.49 whichis statistically significant at 1 per cent. This showsthat, in general, the States with high a SGE-GSDPratio also lead in terms of per capita aggregatespending.

Revenue Expenditure

6.24 State-wise analysis shows that revenueexpenditure as a percentage of GSDP wasgenerally higher in special category States than thatin non-special category States. For instance, theRE-GSDP ratio was the highest in Sikkim at 92.8per cent during 2005-10, followed by ArunachalPradesh (64.5 per cent) and Mizoram (58.0 percent). In contrast, the Revenue Expenditure-GSDPratio was lower than 20 per cent in all the non-special category States (except Bihar) during thesame period. Among the non-special categoryStates, Gujarat, Maharashtra and Haryana had thelowest RE-GSDP ratio during 2005-10. An inter-temporal comparison shows that the two States,viz., Maharashtra and Nagaland witnessed adecline in the RE-GSDP ratio during 2005-10 ascompared with that in 1980-85. However, 15 out ofthe 28 States recorded a decline in the RE-GSDPratio during 2005-10 over 2000-05. This shows thatthere has been some rationalisation in revenueexpenditure across States during the FRL period(Statement 50). In the case of non-special categoryStates, the RE-GSDP ratio, albeit lower during2005-10 than that in 2000-05, was still statisticallysignificantly higher than that in 1980-85.

6.25 Within revenue expenditure, interestpayment for servicing of outstanding debt is one ofthe major committed expenditures of Stategovernments. Interest payment as percentage toGSDP declined during 2005-10 over 2001-05 in allthe States, except Madhya Pradesh, Himachal

Pradesh Mizoram and Uttarakhand. The declineduring 2005-10 over 2001-05 was statisticallysignificant at 1 per cent level of significance. Thiscould be attributed to the Debt Swap Scheme (DSS)operated during 2002-05 and the DebtConsolidation and Relief Facil i ty (DCRF)recommended by the TwFC which facilitated theStates in reducing expenditure on interestpayments.

Capital Outlay

6.26 Most of the State governments seem tohave realised the need to contain unproductiveexpenditures and reorient spending towardsdevelopmental purposes. Capital outlay as apercentage of GSDP (CO-GSDP) recorded anincrease across all the States during 2005-10 over2000-05. Among the non-special category States,Bihar and Uttar Pradesh recorded a significant risein CO-GSDP ratio while among the special categoryStates, the rise was sharpest in Arunachal Pradesh,Manipur, Mizoram and Uttarakhand. The overallrise in CO-GSDP ratio across States during 2005-10 over 2000-05 was statistically significant at 1per cent (Statement 51). One interesting fact thatemerges from this analysis is that among the non-special category States, the CO-GSDP ratio wasconsiderably higher in Orissa and in some of theunderdeveloped States, viz., Bihar, Rajasthan,Madhya Pradesh and Uttar Pradesh during the1980s. Furthermore, these States witnessed asignificant increase in the CO-GSDP ratio duringthe 1990s moving in tandem with most of the otherStates. Even during 2005-10, Bihar, MadhyaPradesh, Jharkhand, Rajasthan and Uttar Pradeshhad the highest CO-GSDP ratio among the non-special category States. However, these Stateshave lower per capita capital outlay as comparedwith other States. This may have implications fortheir level of per capita income as well.

6.27 As far as the trend in per capita capitaloutlay across States is concerned, a few Statesseemed to have lagged behind others in terms ofgrowth. During 1980-2010, the compound annualgrowth rate in per capita capital outlay was below10 per cent in Kerala, Madhya Pradesh, Orissa,



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Arunachal Pradesh and Mizoram. In contrast theStates, viz., Tamil Nadu, Maharashtra, AndhraPradesh, Karnataka and Assam recorded thehighest CARG during the same period reflectingtheir increasing focus on building infrastructure forboosting growth and development. Per capitacapital outlay is generally higher in special categoryStates than in the non-special category States(Statement 52). The rank correlation at 0.71between the CO-GSDP ratio and per capita capitaloutlay is statistically significant at 1 per cent. Thus,it can be inferred that in general States having ahigher CO-GSDP ratio also spent higher amountin terms of per capita during 2005-10.

Development Expenditure

6.28 During 2005-10, development expenditureas a percentage to GSDP (DE-GSDP) has showna significant increase over 2000-05 across amajority of the States. In a few States, however,the DE-GSDP ratio was still lower than that during1980-85 (Statement 53). The DE-GSDP ratio isfound to be higher among the special categoryStates as compared with non-special categoryStates. Among the non-special category StatesBihar, Madhya Pradesh, Uttar Pradesh and Orissa—all with per capita income below the nationalaverage—seemed to have focused more ondevelopment spending as their respective DE-GSDP ratios rose during 2005-10 over 2000-05. Incontrast, some rich States like Punjab, Haryana,Gujarat, Goa, Maharashtra and Tamil Naduwitnessed a decline in the DE-GSDP ratios during2005-10 over that during the 1980s and 1990s. Withregard to the share of development expenditure inthe total expenditure of States during 2005-10,there was a statistically significant decrease ascompared with 1980-85. However, the share ofdevelopment expenditure in total expenditure byState governments turned out to be significantlyhigher than that in 2000-05 (Statement 54).

6.29 Per capita development expenditure showsa distinct trend between special and non-specialcategory States. Special category States tend tospend more on development expenditure per

capita. No distinct trend, however, is discernible interms of CARG in per capita development spendingacross special and non-special category States.During the period of analysis, CARG in per capitadevelopment spending by the State governmentswas found to be higher than 10 per cent in all theStates, except Madhya Pradesh, Mizoram andNagaland (Statement 55). The statist ical lysignificant rank correlation of 0.50 between the DE-GSDP ratio and per capita developmentexpenditure across States shows that, in general,States with a high DE-GSDP ratio also allocatemore in terms of per capita developmentexpenditure.

Social Sector Expenditure

6.30 Social sector expenditure as percentage toGSDP was found to be generally higher in specialcategory States as compared with non-specialcategory States. A State-wise trend in socialsector expenditure as percentage to GSDP showsthat al l State governments increased theirspending on social sector development during thesecond half of the 1980s. However, there was adecline in the SSE-GSDP ratio across a majorityof the States during 1990-2005 (Statement 56).In recent years, there seems to be more emphasison social sector spending by the Stategovernments as an average rise in the SSE-GSDPratio across the States was statistically higher thanthat during 2000-05. In most of the States, the percapita social sector spending of Stategovernments recorded a CARG of above 10 percent (Statement 57). As in case of developmentexpenditure, rank correlation between SSE-GSDPratio and per capita social sector spending is alsofound to be statistically significant.

6.31 Once the trend in the share of publicexpenditures is explored, it is of great interest toexamine whether the States have harmonised thefunctional distribution of their public expenditures.An exercise on the composition of expenditureindicates convergence with respect to majordevelopment expenditures across the States(Box VI.19 and Chart A to F).

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There are many definitions of convergence in literature; thereare two convergence indicators that have been widely used: β-convergence and α convergence (Barro and Sala-i-Martin, 1992).The former takes place if it is found that when a group of cross-sections (States in this case), starting out the sample period withbelow-average (variable) tend to grow faster than other groupsof cross-sections that start with above-average levels, whereasthe latter is found when there is a decline in the dispersion oflevels over a period of time.

In order to examine convergence of major categories ofexpenditure, an exercise covering the period 1980-81 to 2008-09(RE), is attempted to estimate β convergence by estimating thefollowing equation:

Ln (Eit/Ei0) = α + δ* Ln Ei0 + uit

A negative value of δ signifies the beta convergence and theconvergence rate β can be calculated using the following formula:

β = - [Ln (1- δ)]/T

E represents the level of per capita expenditure of a State where0 and T represent the initial and final years respectively, and uit

is an error term.

The above equation is estimated for major categories ofexpenditure, viz., revenue expenditure, capital outlay,development expenditure and social sector expenditure.

Table 1: Beta Convergence Regressions for PerCapita Expenditure Levels across States

CO DE SSE ED HE RD

α 4.6 7.1 7.3 6.2 4.3 3.3

Ln Ei0 -0.35** -0.70* -0.78* -0.74* -0.56* -0.30

Adj. R2 0.16 0.47 0.51 0.31 0.33 0.08

β -0.010 -0.018 -0.020 -0.019 -0.015 -0.009

(* ) and ( **) denote Significance at 1 % and 5% respectively.

CO: Capital Outlay. DE: Development Expenditure.

SSE: Social Sector Expenditure. ED: Education Expenditure.

HE: Housing Expenditure. RD: Rural Development Expenditure.

It can be observed from Table 1 that the coefficient of ä isnegative across all the equations tested for beta convergence. Itcan be inferred that the levels of per capita capital outlay,development expenditure and social sector expenditure haveshown some convergence across States as their respectivecoefficients of ä are negative as well as statistically significant.However, within social sector expenditure, the coefficient of ä inequations tested for per capita expenditure on rural developmentis negative but not statistically significant indicating convergencenot supported by statistical confidence. Per capita spending byStates on other categories of social sector expenditure, viz., (i)

health; and (ii) education, sport, art and culture have shownsignificant convergence across States. Among the broadexpenditure categories, the rate of convergence as denoted bybeta shows that per capita social sector expenditure had thehighest rate of convergence across States during 1980-81 and2008-09 followed by per capita development expenditure. Theseempirical findings support the trend shown by weighted coefficientof variation (WCV), weighted by the population share of eachState, which reflects a changing degree of dispersion in per capitaexpenditure of select categories. The weighted coefficient ofvariation is calculated as:

Where E is the relevant expenditure category in per capita terms,Pi/P is share of the State in total population and N is the numberof States.

A panel of charts shows that a declining trend is discernible inWCV of broad categories of expenditure (in per capita terms),viz., capital outlay, development expenditure and social sectorexpenditure across 22 States during 1980-2009. Within socialsector expenditure, a declining trend in WCV was observed inper capita health expenditure. However, per capita ruraldevelopment expenditure across States has shown noconvergence during 1980-2009 as was also seen in the betaconvergence analysis. While the beta convergence analysissupported increasing convergence in per capita educationexpenditure across States, the trend in WCV does not seem tosupport this finding (Charts A to F).

As far the impact of major categories of expenditure on GSDPgrowth is concerned, a short exercise based on pooled leastsquare method shows that one percentage increase in the capitaloutlay-GSDP ratio impacts GSDP growth by 0.2 percentagepoints in the succeeding year. However, the impact ofdevelopment expenditure and social sector expenditure with oneyear lag on GSDP growth appears to be lower than that of capitaloutlay perhaps due to the fact these are dominated by therevenue expenditure component (Table 2). It is found that theimpact of capital outlay and development expenditure on GSDPgrowth of States is statistically significant.

Table 2 : Impact on GSDP Growth :Pooled Least Square

Expenditure Category C Coefficient T-Statistic

CO-GSDP (-1) 9.4 0.2 3.4

DE-GSDP (-1) 8.4 0.1 4.5

SSE-GSDP (-1) 9.6 0.1 1.3

Box VI.1: Convergence in the Composition of Major Categories of Expenditure across States

WCV = 1Mean E Σ

(E – Mean E)2 *

PiP

N

Contd...


6. Conclusion

6.32 Trend analysis shows that aggregateexpenditure of the State governments as a share ofGDP increased during the 1980s but fell during the1990s. Aggregate expenditure as percentage ofGDP moved upward during 2000-05. However,compression in consolidated expenditure of State

governments can be observed during 2005-10mainly on account of some rationalisation of revenueexpenditure during the fiscal responsibility legislation(FRL) period. This is evident from a decline in theRE-GDP ratio from 13.3 per cent in 2000-05 to 12.4per cent during 2005-10. The analysis indicated aconvergence of the major components of thedevelopment expenditure across the States.

Concld.

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