Chanakya IAS Academy Blog


2 States breach 3% fiscal deficit target

2 States breach 3% fiscal deficit target

RBI can only advise states, but can do nothing to stop them from breaching the fiscal deficit target as it does not have a constitutional backing in this regard. This was stated by RBI officials in a teleconference post the monetary policy review.

The RBI has cautioned seven states against breaching the 3% fiscal deficit target but two states have already breached the requisite threshold.

Why do state governments breach fiscal targets:

  • State governments face severe constraints on the financial front as the non- debt creating receipts are found to be insufficient for meeting the developmental obligations of the state
  • This leads to a situation where states resort to market borrowings to meet their developmental expenditure
  • Such borrowings if unchecked may result in accumulation of debt liabilities and pose a major challenge to macroeconomic stability

Existing provisions:

  • The Fiscal Responsibility Budget Management(FRBM) act prescribes a fiscal deficit threshold of 3% of Gross state domestic produce(GSDP)
  • But states can breach the threshold after taking permission from the Centre in this regard
  • Expenditure made under UDAY scheme can be exempted from fiscal deficit target by states

Farm loan waivers and its impact on fiscal deficit:

  • Implementation of farm loan waivers by some states have compounded the issue
  • Breach of fiscal deficit threshold can cause inflationary spillovers

NK Singh panel submits its report on FRBM act:

  • The creation of a panel to review the FRBM act was announced in the budget 2016-17
  • The panel has recommended a fiscal deficit target of 2.5% of the GDP
  • Enacting a new act after repealing the existing FRBM act and creating a fiscal council
  • A debt to GDP ratio of 60% for the central government and 20% for the state government
  • A deviation in fiscal deficit of not more than 0.5% will be allowed in case of specific circumstances which includes war, calamities of national proportion, collapse of agricultural activity, far-reaching structural reforms, and sharp decline in real output growth
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