The Road Ahead: Healthy Public Finances Are The Key To Prosperity

Most Indian media and middle classes are obsessed with politics as a spectator sport and power game. But the future of our society will probably be shaped by the economic management of the country.

This column has drawn attention on more than one occasion to the future catastrophe that will affect the next generation if governments recklessly switch to the unfunded, excessively generous old pension system (OPS) for government employees. In Himachal, Punjab, Rajasthan, Madhya Pradesh and Chhattisgarh the state governments unwisely reverted to OPS from the fully funded, contributory National Pension System (NPS) introduced in 2004, and pursued by BJP, Congress and other parties. West Bengal never embraced NPS.

But now, happily there seems to be a reversal of the trend, and funded, contributory pension system with guarantee of minimum pension, but without a burden on the next generation is gaining acceptance. Andhra Pradesh introduced such a guaranteed contributory pension system (GPS). Karnataka and Telangana, where Congress promised OPS, have rightly ignored that pledge, and are looking for alternatives. In Madhya Pradesh, Chhattisgarh and Rajasthan, with BJP in power now, the governments are reversing the ruinous OPS policy. The Union government has embraced a funded contributory universal pension system with guarantee of minimum pension (UPS). Maharashtra now embraced UPS. All in all, this reversal of the dangerous trend of embracing the ruinous, unfunded OPS, and finding a viable solution to address the employees’ concern for assured pension is a welcome and wise development.

With OPS, the future of today’s children and youngsters would have been ruined, and India would have faced unprecedented fiscal crisis. Even now the pension burden is increasing rapidly, and governments are unable to meet the committed expenditure from the revenues. The employees who were recruited after 2004 will start retiring in another decade, and they will draw pension from the pension fund instead of the public exchequer. But those who were recruited before 2004 will draw generous pensions from the exchequer under OPS, and the future tax payer is burdened to pay for the services rendered to earlier generation.

Those who were recruited in 2004 will continue to draw pensions under OPS for another four or five decades. But with NPS/GPS, the pension burden on the exchequer will start decreasing from about 2035, and will continue to taper off and will finally cease by about 2070. When we unwisely transfer the burden to the future, our children will pay a heavy price. But at least now there is a light at the end of the tunnel. The tax payer will have to pay the price for a few decades more for the past mistakes of governments; but the future is secure and a catastrophe is averted. West Bengal will have a grave fiscal crisis in the coming decades, and would do well to introduce a funded, contributory pension system at least now. All other states would be wise if they persist with NPS with some improvements in tune with UPS if necessary.

While one danger to the future is averted, we have a present fiscal crisis in many states. The Union has been doing a competent job of improving public finances, and there is a viable road map to reduce the debt burden and fiscal deficits. Some of the states have been models of fiscal prudence. Uttar Pradesh, Odisha and Gujarat have healthy revenue surpluses. As a result their capital investment exceeds borrowings, paving way for rapid development and future prosperity. States like Maharashtra, Karnataka, Telangana, and Tamil Nadu have relatively strong economics and enjoy the advantage of big cities as engines of growth and higher levels of urbanisation. As a result, despite fiscal profligacy and focus on short-term individual welfare, they will escape fiscal crisis because of the strength of the economies. In these states, future growth will suffer, but there will be no debt trap or fiscal collapse unless they bungle public finances colossally.

We can assess the health of public finances in three simple ways. First, what share of the revenues is spent on salaries, pensions and interest payments. If a very high proportion is the committed expenditure with no discretion, then very little is left for the tasks of governance. Given the ever increasing short-term welfare programmes implemented by governments, they are forced to borrow heavily for current expenditure. Both the core functions of government and capital investment for future growth suffer, and the state will be on a path of fiscal crisis, poverty and backwardness. Second, we should look at the total public debt as a share of the state’s GSDP. The norm for the states is 20%, but many states have exceeded 40%. Some states are in the range of 50-65%, and are facing an imminent fiscal crisis. Third, debt servicing cost as a share of revenues indicates the ability to repay debts, and gives us a measure of how close a state is to debt-trap.

Andhra Pradesh, Punjab, Himachal Pradesh, Rajasthan, Kerala and West Bengal are already in a debt-trap, or are perilously close to it. The Union is the custodian for the financial stability and credit of India. The Union and states together constitute a single fiscal system. The Union has the duty and authority to make states follow a path of fiscal responsibility. But first, there should be fiscal consolidation and restructuring in order to protect the future of our economy. India has a priceless opportunity to grow rapidly in the next two to three decades. Healthy public finances are the key to future prosperity.

The author is the founder of Lok Satta movement and Foundation for Democratic Reforms. Email: drjploksatta@gmail.com / Twitter @jp_loksatta