Growth Effects of Fiscal Policy of India States

As witnessed in the recent past, lopsided regional development has become a threat to inter-state migration in India. This can also thwart the peace and security in the country. No wonder then that development has become an electoral agenda at the state level. The development deficit at the state level is being taken cognisance of not only by the academicians but by political leadership as well. In view of this, this paper examines the role of fiscal policy implemented by the states in reducing the regional disparities in the economic growth across states. We examine the growth effects of fiscal policy instruments of the major states of India during the period 1980-81 to 2006-07, using the panel data approach. The study finds that fiscal deficits of the states result in contraction of growth. As regards the impacts of the various items that constitute the fiscal deficit, viz., taxes, revenue expenditures and capital expenditures, the impact of each of these items on the growth of the states has been found to differ. Capital expenditures, particularly those on transport, communications and education are found to promote economic growth, albeit with a time lag. The study also raises concerns over the deterioration in the quality of fiscal deficit of states due to its adverse implications on economic growth. Based on the empirical results, we advocate increased capital expenditure at the state level as an integral part of the strategy for regionally-balanced growth. A positive externality of this strategy could also reduce expenditure on the internal aggression across the states of India.