Transcript expenditure - World Bank

State Fiscal Reforms in India:
Progress and Prospects
November 23, 2004
Background and context
• Bank’s first state report in 1996 on Orissa.
Since then, it has authored 12
fiscal/economic reports on 9 states;
prepared 8 SALs in 5 states.
• This stock-taking report looks for feasible
solutions across states. It aims to share
lessons of state-level fiscal reforms to date
and suggests what more can be done.
– It has a developmental focus.
– Unlike our state reports, it also looks at crossstate/GoI issues: the “rules of the games”
2
Structure of the Presentation
A. Introduction
B. Expenditure Restructuring
C. Reforms to Improve Expenditure
Quality
D. Tax Reforms
E. The borrowing and grant regime.
F. Scenarios and conclusion
3
A. INTRODUCTION
State coverage
• Focus is on the 16 large, general
category states (93% of the population)
• Within that, special focus on the 7
poorest states – p.c incomes of less than
Rs 10,000: Bihar, Chattisgarh, Jharkand,
Madhya Pradesh, Orissa, Rajasthan, UP.
• The average per capita income in the
poor states has fallen from 71% in
1980/81 to 54% of the All-India average
in 1999/2000.
5
Average real per capita income
growth
6
5
4
Poor states
3
Others
2
1
0
80s
90s
6
The state-level fiscal crisis of
the 1990s
• A slow secular deterioration in state fiscal
performance over the 80s and 90s was
catalysed into a crisis by the Fifth Central
Pay Commission Pay Awards.
• A sharp increase in spending alongside
declining revenues led to much higher
deficits and debt accumulation.
• Off-budget liabilities also increased sharply.
• Poor states saw the worst deterioriation.
7
5%
1%
0%
0%
85/86
86/87
87/88
88/89
89/90
90/91
91/92
92/93
93/94
94/95
95/96
96/97
97/98
98/99
99/00
00/01
01/02
02/03
03/04 RE
04/05 BE
State deficit and debt levels
35%
6%
30%
5%
25%
4%
20%
15%
3%
10%
2%
Debt/GDP
Fiscal deficit/GDP
8
State- level debt/GSDP:
poor and other states
50%
45%
40%
Poor states
35%
30%
25%
Other states
20%
03/04BE
01/02
99/00
97/98
95/96
93/94
91/92
89/90
15%
9
The fiscal deterioration had a
negative developmental impact
• Once one adjusts for the large increases in
interest and pension payments, and for the
large real salary increase, aggregate spending
has continued the downward trend in state
expenditure/GDP observed during the early
nineties.
• Real growth slowed or halted in priority
spending areas such as education and health.
• The quality of spending worsened as
expenditures became more salary-intensive,
especially in the poorer states.
10
Aggregate expenditure trends for India’s
states as a percentage of GDP
16
15
13
12
11
10
02/03 est
01/02
00/01
99/00
98/99
97/98
96/97
95/96
94/95
93/94
92/93
9
91/92
Percent
14
Total expenditure
Total expenditure-interest-pensions
Total expenditure-interest-pensions-cost of Fifth Pay Commission
11
Recent years have shown signs
of improved fiscal performance.
• The intensified revenue effort appears
to be paying off.
• The wage bill is being restrained.
• Interest rates are falling – also through
debt-swap scheme
• Liquidity has improved
• There are success stories: Haryana &
Karnataka.
12
But fundamental concerns
remain.
• The primary deficit has fallen, but revenue
and fiscal deficits remain stubbornly high.
• Debt levels continue to increase: India’s states
are the most highly indebted in the world.
• Poor states are showing fewer signs of
recovery.
• “Reform fatigue”: yet without further
comprehensive reforms, the situation will only
deterioriate.
13
Trends in state deficits
14
1
03/04 RE
02/03
01/02
00/01
99/00
98/99
97/98
96/97
2
95/96
94/95
93/94
92/93
91/92
5
90/91
89/90
88/89
87/88
86/87
85/86
Percent of GSDP
State fiscal deficit: poor states and others
9
8
7
6
Poor states
4
3
Other states
15
There is a broad consensus on
reform objectives
• To meet pressing developmental challenges,
states need to:
– spend more in priority areas.
– spend more effectively.
• To finance the required spending increases,
while at the same time reducing the deficit,
states need to
– restructure expenditure
– reform tax policy and administration
• This report asks what needs to be done – by
the centre as well as the states – to achieve
these objectives.
16
B. EXPENDITURE RESTRUCTURING
Salaries
• Salaries make up 30% of spending.
• A policy of hiring and and real wage restraint can deliver
significant fiscal gains: 2% of GDP in the next 10 years.
• On pay restraint:
– Most public sector employees are overpaid relative to their
private sector counterparts.
– Another cross-the-board pay increase would undo
whatever progress has been made in recent years.
– Central leadership is key but states also have a role:
different states offer different terms to both existing and
new employees
• On hiring restraint.
– VRS has not worked, but hiring requirements can be
temporarily offset by attrition-led downsizing in other
areas.
18
Starting Basic Salary of a Primary School
Teacher
Table 2.2. Starting Basic Salary of a Primary School
Teacher
State
Andhra Pradesh
Karnataka
Orissa
Punjab
Tamil Nadu
Uttar Pradesh
Basic Salary
(Rs/month)
1995
2003
1,010
3,750
1,040
3,300
1,080
3,600
1,200
4,550
1,200
4,500
1,100
4,500
19
Pensions
• Growth in the pension bill can be contained by
parametric and structural reforms.
• Parametric reforms (to current Defined Benefit
(DB) scheme)
– As per RBI report
– Crack down on abuse
• Structural reforms (switch to Defined
Contribution (DC) scheme)
– Short-term fiscal cost for long-term gain
– NPC of DC to government is two-thirds of DB scheme
20
Subsidies
• Though subsidies are the normal focus of
expenditure restructuring reforms, success on
this front is much more difficult.
• The failure of reform in the agricultural
segment of the electricity sector illustrates the
difficulties.
• There are no assured paths to success, and
institutional experimentation is needed.
• Instilling commercial discipline into subsidized
sectors is a sine qua non. In some areas,
privatization might be the only way to do this.
• The aim should be to manage and control
rather than eliminate subsidies.
21
Public enterprise reforms
• PE reforms will not provide large,
immediate fiscal gains, but will prevent
the need for budgetary support to lossmakers and the future build up of
liabilities.
• Political commitment and institutional
capacity are critical to success.
22
C. REFORMS TO IMPROVE
EXPENDITURE QUALITY
94
96
92
73
73
85
78
73
77
67
42
34
25
34
32
16
14
1994
1999
Agencies
1
2003
n/a
Public buses
Police
Public hospitals
n/a
Land authority
4
Telephones
6
9
Water supply
5
32
Transport authority
47
41
Electricity
100
90
80
70
60
50
40
30
20
10
0
City council
% satisfied
Improvements in customer satisfaction
with various services in Bangalore over a
10-year period.
24
5 ways to improve the quality of
expenditure
1. Agency specific reforms, incl. an increased role for the
private sector.
2. Strengthening the enabling environment
–
–
–
–
Promoting citizen demand,
Increasing transparency
controlling transfers
Establishing/strengthening anti-corruption agencies
3. Improving public expenditure management:
–
–
–
–
Budgeting realistically and implementing the budget as
announced,
Enhancing departmental accountability and flexibility.
Strengthening budgetary controls over open-ended
obligations and capital projects,
Tightening accounting and auditing arrangements
25
Quality of expenditure (cont.)
4. Capacity building is critical for reforms and
performance.
5. Improving the quality and increasing the quantity of
productive expenditure go hand in hand: it is not one or
the other.
26
D. REVENUE REFORMS
Trends in states’ own revenues as a
percentage of GDP
8
3.0
2.8
2.6
2.4
2.2
2.0
1.8
1.6
1.4
1.2
1.0
Ow n revenues (LHS)
7
6
5
Ow n tax revenues (LHS)
4
3
Ow n non-tax revenues(RHS)
2
04/05 BE
02/03
01/02
00/01
99/00
98/99
97/98
96/97
95/96
94/95
93/94
92/93
91/92
90/91
89/90
88/89
87/88
86/87
85/86
0
03/04 RE
1
28
Revenue Reform Objectives
• To increase revenue
• To broaden the tax base
• To simplify the system and reduce
corruption
29
VAT: the most important revenue
reform
• The introduction of VAT should be on the basis of floor
rather than uniform rates to avoid loss of revenue,
preserve tax autonomy, and minimize need for
compensation.
• It would be better if all states introduced VAT at the
same time, but no single government should have a veto.
• Eliminating the tax on inter-state exports should be
done regardless of VAT introduction
• Taxation of services should be transferred to the states,
and integrated with the VAT.
• Even after state-level VAT introduction, India’s indirect
tax system will still be very complex. The ultimate goal
should be a unified centre-state VAT.
30
Other revenue reforms
• The professions tax can be viewed as an
income tax supplement: potentially important,
but currently neglected.With an increase in the
constitutional ceiling and better administration,
tax take could increase from 0.1% to 0.9% of
GDP.
• Well-known reform formula for S&R
• Transport tax: cars and 2-wheelers are
undertaxed relative to buses
• Non-tax revenues have stagnated and need
more policy attention from government.
31
Tax administration
• Tax administration reforms are probably more
important than tax policy reforms – both to
increase revenue and to reduce corruption -but have received less attention.
– Reducing discretion and official-taxpayer interaction:
functional CTD organization; self-assessment with
risk-based audit; computerization; citizen feedback.
– Modernizing field enforcement and check posts.
– Crack-down on evasion in excise.
– Strengthening inter-jurisdiction revenue coordination.
32
E. BORROWING and GRANT
REGIME
Borrowing: current situation &
recent trends
• Trends in composition of resource transfers
over the 90s have been adverse for the states,
who have received a greater share of their
transfers in the form of debt, and a smaller
share as grants.
• The strengths of the sub-national borrowing
regime are its ban on offshore borrowing, and
limited history of bailouts. The weaknesses are
the looseness of overall central control, and
absence of market-based discipline, leading to
excessive debt accumulation by states.
34
Resources other than own-revenue used
by states to finance expenditure
5
4
3
2
Borrow ed funds
04/05BE
02/03
01/02
00/01
99/00
98/99
97/98
96/97
95/96
94/95
93/94
92/93
91/92
90/91
89/90
88/89
87/88
86/87
0
03/04RE
1
85/86
Percent of GDP
6
Transferred funds (from GoI)
35
Reforms to the borrowing regime
• The most important reform would be to
introduce an aggregate borrowing cap and
allow for greater flexibility over choice of
borrowing instruments within that cap.
• GoI has begun to move in that direction. Next
steps could include:
– Formalizing the cap methodology, and publishing the
individual, annual caps with the budget
– Requiring all states to get credit-rating and to go to
the market on their own at least if they want
additional market access.
36
Debt restructuring & debt relief
• Debt-restructuring is consistent with
shifting to flexibility within a cap.
• Debt relief (HIPS) is more problematic:
– Problems of moral hazard
– Creditor more indebted than debtor.
– Goals of debt relief can be achieved by cash
grants
• Any shift to debt relief should be
accompanied by irreversible, structural
changes in the borrowing regime.
37
Legislation to control borrowing
• India has gone down the “autonomous route”
to FRAs in a federation (US, Canada, Australia),
rather than the “coordinated route” (Brazil)
• 5 states have passed FRAs. Experience so far is
mixed.
• For FRAs to work, there needs to be buy in:
internal commitment and external pressure.
• GoI can play a critical role here by monitoring
state performance against their own fiscal
responsibility legislation.
38
Grants: current situation and
recent trends
• Federal transfer system is progressive,
but only moderately so.
• It is becoming more progressive over
time.
• Opinions are divided on how to reform
the grant regime; it is also institutionally
complex; there are various reform
options; reforms will in any case be
incremental.
39
Bihar
Orissa
Uttar
Pradesh
Chattisgarh
Jharkhand
Madhya
Pradesh
Rajasthan
West Bengal
Andhra
Pradesh
Kerala
Karnataka
Tamil Nadu
Haryana
Gujarat
Punjab
1.00
0.90
0.80
0.70
0.60
0.50
0.40
0.30
0.20
0.10
0.00
Maharashtra
Index (Haryana = 1)
P.C. revenues for the major states,
2001/02 (normalized)
<-----------------O ther States-----------------> <------------ Poor States------------------->
<-------------------------------------- -From rich to poor-- -------------------------------------->
Own Revenues
Transfers
40
State revenues before and after transfers
(formal and FCI), 2000/01
100
per capita revenue (Punjab=100)
90
Total revenues(excl. FCI)
80
Total revenues
(incl. FCI)
70
60
50
Ow n-revenues
40
30
20
10
0
0
5000
10000
15000
20000
25000
30000
GSDP per capita
Note: Per capita subsidy implicit in Food Corporation of India procurement of food produce (from World Bank, 2004e) added to formal
transfers from GoI.
41
Transfers from GoI to the poor states as a
percentage of total transfers
60%
55%
50%
2003/04BE
2001/02
1999/00
1997/98
1995/96
1993/94
1991/92
1989/90
1987/88
1985/86
45%
42
Possible policy reforms to the
grant regime
• De-link block grants and loans
• Eliminate hidden transfers (e.g. farm
procurement, CST)
• End reliance on projected deficit levels for FC
grants (gap-filling).
• Introduce a Representative Tax System to
provide a revenue floor.
• Rationalize CSSs.
• Strengthen reform-linked schemes.
• Reforms to increase GoI tax/GDP ratio
43
Institutional reforms
• Make Finance Commission a permanent
body.
• Give central agency mandate to collate
and improve state-level fiscal data
• Overhaul role of Planning Commission.
• Make role of external funding agencies
consistent with fiscal federal reforms;
e.g. use donors to facilitate state
reforms
44
F. SCENARIO AND CONCLUSION
Reform scenario results
• The scenarios conducted show that it is possible with the
reforms presented in the report to eliminate the statelevel revenue deficit by 2007/08 while
protecting/enhancing capex and non-wage O&M.
• The scenario results suggest four points:
• The situation today is more favourable than 5 years ago.
• State-level fiscal adjustment and empowerment can be
achieved as a joint centre-state project.
• Achievement of fiscal adjustment for the poorer states is
possible only with successful central tax reforms.
• Esp. for poorer states, revenue balance implies large
primary surplus, and more scope for increasing capex than
non-wage O&M.
46
Conclusion:
the report in 13 messages
EXPENDITURE
1. A policy of hiring restraint (zero net hiring) and real
wage restraint can deliver significant fiscal gains.
2. Growth in the pension bill can be contained by
parametric and structural reforms.
3. There are no sure paths to subsidy reduction, but
better subsidy management and more commercial
discipline in subsidy-receiving sectors are critical.
4. The quality of spending can and must be improved
47
Conclusion (cont).
REVENUE
5.
6.
7.
VAT introduction should be voluntary, and on the basis
of floor rates.
Tax base of the states should be increased by service
taxation and enhancement of the professions tax limit.
Tax administration reforms are more important than
tax policy reforms, though they have received less
attention.
48
Conclusion (cont.)
TRANSFERS: loans & grants
8. States should be given more borrowing flexibility within
firmly established global caps.
9. Reforms to the grant system should aim to make it both
more progressive and more performance-oriented.
10. In a fiscally stressed system, an increase in the GoI
tax/GDP ratio is critical, especially for the poorer states.
INSTITUTIONS
11. A central agency should be given the mandate to collate
and improve state-level fiscal data.
12. The “plan”-”non-plan” distinction should be abolished.
13. Adoption of fiscal responsibility legislation by all
states,and its monitoring by GoI and external agencies,
will provide important institutional backing for state49
level fiscal reforms.
Thank you!