The Commission has, thus, tried to blend the objectives of fiscal prudence on the part of the States, of incentive for revenue deficit reduction on a State-specific basis, and of debt sustainability.

But, in this package, the Commission has also sprung what some States may regard a surprise. It has said that in future the Centre may not give loans to the States for Plan or non-Plan purposes; States have the option to go directly to the market; the limits of borrowing may be fixed by them through their respective Fiscal Responsibility Legislation and by a new Loan Council which will supervise the overall limit of annual borrowing for each State.

One hopes, but with fingers crossed, that this constructive package (and the detailed formula) will work smoothly. There are at least three sets of questions which require attention.

To what extent would the States be able to bring down their revenue deficits? A reduction will not only result in benefits of debt relief for a particular year but also reduce the total size of the borrowing which, in turn, will reduce the interest burden for the future.

However, revenue expenditure reduction requires determined and sustained action.

There are no guidelines; perhaps each State is left to be the best judge of how to reduce expenditure. Going by past experience, one cannot be sanguine.

Moreover, the needs of Plan expenditure, particularly in staff-intensive areas such as education and health, have to be met. The other way of reducing deficits is to increase revenues, a course which certainly needs pursuing. But the changeover to VAT could possibly impact the ability of States to raise more resources in the next few years.

What would be the situation with regard to borrowing? Thanks to the Commission's recommendation, past loans can be repaid over 20 years and this will ease, to some extent, the States' positions.

However, no specific measures have been proposed for reduction in fresh borrowings except by way of reduction of the revenue deficit; the States can still pile up their borrowings, except for the limits imposed by their own Fiscal Responsibility Legislation.

States which have been spoon-fed with Central loans for over 50 per cent of their requirements will now have to totally rely on the market. Has the Centre washed its hands off after indulging the States for some 50 years? Asking the States to take charge of their own affairs and be self-reliant and not over-dependent on the Centre and leading them to adopt Fiscal Responsibility Legislation, are certainly welcome steps. But what happens to States which do not yet have a standing to borrow all their requirements from the market?

The Tenth Finance Commission has been sensitive to this problem and has said that, in such cases, the Centre could resort to lending. In this connection, it is relevant to note the following. In the new dispensation, the market borrowings of the State governments will have to more than double of what they are now.

According to the Reserve Bank of India, in recent years, there have been instances of under-subscription to the State Government issues despite easy liquidity conditions. It is also reported that the existing humps in the repayment schedule of market loans during the period 2007-08 to 2013-14 have been aggravated to an extent by the issue of power bonds. One has to observe the coming `borrowing season' to see how the States fare.

Moreover, in the past, States went for a large Plan hoping to get 70 per cent of it as loan from the Centre. If they have to go to the market, they may have to go in for less ambitious plans, and slippages could also occur during the Plan period, aggravating, in the process, the trend of declining capital expenditure. In addition, there could be some change in the role of the Planning Commission as the arbiter of the Plan size and in the size of a State Plan and in the complexion of the Plan formulation process.

A grant component of 30 per cent of the Plan size has also been historically low since State Plan activities in education, health, are staff-intensive. The percentage can now be increased to, say, 50, so that the revenue deficit reduction envisaged is not handicapped, particularly in the context when social sector expenditure will increase. The charter of the Loan Council and its relationship with the Centre and the Planning Commission will have to be defined. Issues like this with development implications require investigation and elucidation.

It appears that financially better-managed States would fare better in deriving the benefits of the package; States hitherto financially weak will need to have a look at options to improve their position without detriment to their development.

In any event, there has to be a close watch on the working of the package and the results need to be reviewed by the National Development Council. The Centre is trying to help the States, but who will help the Centre, with its debt service obligations consuming its revenues? Who will cure the doctor?

(The author is Chairman, Public Expenditure Round Table.)

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