State Finances: J&K Economy From The Rear View-Part II

This is the second piece in a Four-part series that outlines the processes of change in J&K Economy since 1996-97

IF there is one thing that economic policy makers have been consistent in, it’s in their ineffectiveness of forecasting correctly. By virtue of its nature, all policies have to be formulated based on a set of futuristic assumptions. The success or failure of such plans, therefore, depends to a great extent on the synchronous unfolding of realities with the predictions envisaged by the policy makers. As a matter of fact, not all economic policies achieve their stated objectives perfectly and sometimes the quantum of failure is so large that policy changes like those adopted by Russia in the form of New Economic Policy in 1922 or by India in the form of liberalization in 1991, become a necessity. Reforms of this scale are rare. Most of the time, however, Government often tries short term monetary and fiscal tactics to keep the engines running. Whenever you see Government bullying consumers, households and businesses with tactical moves like aggressive taxes, duties and expenditure cuts, you know that the Government’s economic policy is showing signs of failure. Despite this persistent inability to forecast accurately, testing the effectiveness of previous economic policies, with the benefit of hindsight, does remain an interesting and value adding field of study.

Besides other supplementary policies, the two central levers of the Government’s economic strategy comprise of the Annual Fiscal Policy and the more frequently announced – The Monetary Policy. Unlike the latter, which is the sole domain of the Central Government (through banking regulator) and majorly regulates the flow and cost of money in the system, Fiscal policy is much more significant strategically in determining the economic progress of the country. Fiscal policy in India works through a two tier architecture comprising an annual Union Government Budget and more customized region specific tax and expenditure policies formulated by the respective State Governments in the form of state budgets.

Continuing with the endeavour of outlining the changes in J&K Economy since 1996-97, this column shall analyse the effectiveness of GoJK’s fiscal policies in improving the region’s economic output and income levels. Although there are hundreds of variables in a typical state budget which can be analysed, however, in order to keep things simple and somewhat relevant to what directly affects a common man, we shall highlight only a few of them.

Tracking movement of variables like state’s own tax collections, debt levels & asset creation through state’s contribution towards developmental expenditure and pitching these numbers against the growth in income or rate of GDP shall throw some interesting insights.

In this analysis, the time frame has been classified into 4 segments of six years. It has been aligned with the changes in political representatives holding the highest Government offices because economic policies like tax structure and spending priorities tend to change every time a new dispensation takes over.

Growth in State Government’s Own Tax collections (nominal values):

From Rs. 289.27 crore in financial year (FY) 1996-97 to Rs. 10387.28 crore in FY 2019-20 J&K’s own tax collections have come a long way. Growing at an average rate of 17.19%, the pattern of movement has been anything but smooth. From a high annual growth of 32.30% in FY 1999-2000 to a nose diving slump of -7.21% in 2019-20, the tax collections have been highly volatile.

Inheriting a very low tax base and a highly informal economy of the 90’s, the elected Government led by the then Chief Minister Farooq Abdullah registered an average growth of 24.46% from FY 1996-97 to FY 2001-02. Then, during the Peoples Democratic Party-Congress coalition Government. i.e. between 2002-03 and 2007-08, the tax base continued to grow but the average rate of growth slowed down substantially to 17.14%. This slow down is despite the period being comparatively peaceful than other time frames. This can be attributed to relaxed taxes and other sops complimenting the larger picture of confidence building measures on the political front during this regime.  Tax collections in the third segment, i.e. between 2008-09 and 2013-14, again registered acceleration at an average growth of 20.52%. A part of this growth can be attributed to high inflation during this period which at an average was around 10.06% compared to 7.01%, 4.72% and 5.37% inflation in the first, second and fourth time frames respectively. However, the tax base did see improvements in terms of tax effort and tax buoyancy during this period.

The smallest and the ugliest tower in the graph i.e. the period between 2014-15 and 2019-20 is the worst performing among the time frames with an average growth rate in state’s own tax collections nose diving to a mere 7.84%. To put things into perspective, the average inflation during this period was 5.37%. This shows that the tax base in real terms has barely moved 247 basis points. This period saw volatile political disruptions and the state witnessed 2 chief ministers, 2 Governors and 2 lieutenant Governors in a span of only 6 years. The phase was marred with mammoth systemic shocks. Besides the dent in the state’s own tax collections on account of surrendering indirect taxes to the GST council, the period witnessed demonetization, bloody political unrest of 2016, down gradation & bifurcation of state into UTs and a lethal pandemic. Business, trade, tourism, consumer spending and investment, everything got bulldozed and consequently tax collections dried up. This was a perfect cocktail for an economic emergency leaving state exchequer gasping for new sources of income. The distress was also reflected in the direct tax collections from J&K (comprising income tax and corporate tax). It registered a contraction of over 10% during this period depicting job losses, income contraction and stressed businesses. This is why GoJK can be seen running from pillar to post to create new tax routes like introduction of the property tax and inflating VAT on the petroleum products.

Is J&K sufficiently taxed when compared to other states? This can be gauged by comparing J&K’s own tax collections with the size of its GDP. In case of J&K, the ratio is about 6.2% (2014-15 to 2019-20) which is better than 13 Indian states including Gujarat (5.6%), Bihar (5.7%), Delhi (5.1%), West Bengal (5.2%), Himachal Pradesh (5.1%) and other north eastern states for the same phase. In terms of its tax payments, people of J&K are therefore paying proportionally better than economically most vibrant states of India. This is despite J&K falling in the bottom 20 percentile states in terms of the per capita income.

Growth in Government Debt:

Every time the expenditure side exceeds the revenue side in the budget, the budget has to deal with a fiscal deficit. Having a fiscal deficit within the prescribed norms is quite normal. To fund this gap, the Government normally relies on borrowing. There are a number of routes through which a Government can borrow, for example, by issuing bonds in the markets through the Reserve Bank of India, by borrowing from the Central Government, or from Provident fund accounts, pension funds, small savings etc. This leads to creation of a debt obligation over a period of time. If the speed with which the debt grows exceeds the state’s revenue growth, the state gets trapped in a vicious circle of repayments and interest servicing. Pertinently, GoJK has one of the highest debt to GSDP ratios (around 50%) in India. It is almost double than the national average. To make things worse, the compensation on account of GST, which states were supposed to receive from the centre too, has been delayed and in some quarters totally denied. This is resulting in GoJK raising even more debt. It is therefore expected that the coming budget will surely have a much larger debt to GSDP ratio compared to the previous year. This creates a costly and recurring leakage in the form of interest servicing and loan repayments. On an average, more than 42% of the revenue receipts in GoJK’s annual budget are consumed in debt servicing. All India average for all the states combined is only 23%. This is how costly J&K’s debt is getting and how this leads to shrinking elbow room for the already starved developmental expenditure.

From total outstanding liabilities of Rs. 8760 crore in FY 2000-01 to Rs. 78,766 crore in FY 2018-19, J&K’s debt has grown at an average annual growth of 13.20%, doubling every 5.45 years in the last two decades (The first four years of data from 1996-97 till 1999-00 is not available). In the last two years of the first time frame, the debt grew at a rate of 10.82%. Then during Congress-PDP rule i.e. from FY 2002-03 to 2007-08, the debt grew much rapidly and accelerated to 15.22%. In the third time frame led by Omar Abdullah’s coalition Govt, it slowed down to 12.58% and in the last period i.e. from 2014-15 to 2018-19, the growth in outstanding liabilities kept on hovering around 12%. As the level of debt has gone sharply up on account of dried up tax revenues, GST compensation and Covid related lockdown, this 12% number is surely going to take a negative hit once the debt for FY 2019-20 is fed into the equation.

Developmental Expenditure trend:

Since J&K’s own tax collection to GSDP ratio is better than 13 other states (almost at par with the national average) and the amount of debt too is way ahead when compared to other states, it shall be interesting to see whether these costly resources have culminated into development & creation of public assets. To understand this, analysing the state’s expenditure trend on development will be quite enlightening.  A developmental expenditure helps in increasing the production and productivity of a state’s economy.  It involves both revenue expenditure and capital outlay and consists of: (i) social services, which includes expenditure on education, health, water supply and sanitation, housing, urban development, and welfare of backward communities, and (ii) economic services, which includes expenditure on agriculture and allied activities, rural development, irrigation, energy, and transportation infrastructure.

The development expenditure has moved at an average annual growth of 13.29% in the last 24 years which is almost in line with the growth of rate in debt. In terms of time frames, the period between 2002-03 and 2007-08 i.e. The PDP-Congress coalition Government led by Late Mufti Sayad and Ghulam Nabi Azad witnessed the highest average annual growth of almost 25% in the developmental allocation. Pertinently, the period also witnessed the highest rate of borrowing by the state Government. Contrastingly, the six years period following this spur, that is till 2013-14, developmental expenditure maintained a timid status quo, registering a negative average growth of -0.10%. In the last period i.e. 2014-15 to 2019-20, the developmental expenditure expanded with an average growth of 16.43%. During this period, compared to other states of India which have a developmental budget to total budget average ratio of 63%, GoJK spent only 53% of its total budget on developmental activities. It’s the 4th worst developmental expenditure ratio in the entire country.

The last 24 years have witnessed a steady growth in taxes, with J&K’s tax to GSDP ratio beating some of the economically best Indian states. The state/UT has also seen bulging levels of debt, with one of the worst debt to GSDP ratio in the country. However, it seems that both the resource streams have not culminated into enhancement of the region’s social and economic infrastructure, as is being reflected in the ranking of worst development expenditure to total budget ratio. Neither has there been an equally proportionate growth in the UT’s economic output or per capita income. The findings are only pointing towards inefficient fiscal management and miserably failing economic policies. The fourth time frame in particular i.e. the period from FY 2014-15 to FY 2019-20 has been the least performing in the last 24 years. A cacophony of political, fiscal and administrative disruptions collapsed the system on all fronts leaving the essential segments of the economy beyond repair. Revenue leakages on the other hand on account of the bloated salary & pension bill, loan repayments & debt servicing and power purchases continue to make sure that the people continue to face new taxes. State continues to bury itself under more debt and compromise while the much needed developmental front continues to throttle growth and individual income.

*Data has been taken from the Reserve Bank of India website, various economic surveys and state budgets. In case of conflicting data points, RBI’s data has been given preference

Views expressed in this article are author’s own and do not necessarily represent the editorial stance of Kashmir Observer

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Ejaz Ayoub

Ejaz Ayoub has been working in the BFSI industry in the field of Financial Risk Management, Strategy and Foreign Exchange. He can be reached at:[email protected].

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