Current crisis in Kerala’s public finance: Some remedial measures
There is no doubt that Kerala is going through a crisis in the realm of public finance. While the state government places much of the blame on the central government, there are others who place it on the state government. Given the long-term nature of both revenue and fiscal deficits, the truth may be somewhere in between. However, the issues concerning the distribution of financial resources between the Government of Kerala and the Government of India can be divided into three segments. First, the issue of vertical and horizontal distribution of the divisible pool including its size. Second, sharing the costs in Centrally-sponsored Schemes and other schemes. Three, grants that are largely left to the discretion of the central government as in Grants for Natural Calamities, Non-Plan Non-Statutory Grants and so on.
There is very little that the Government of Kerala alone can do about the first and second. Changing the norms require the collective cooperation and effort by all states regarding vertical distribution of divisible pool and its size. Changes in horizontal distribution has affected some states adversely and that includes Kerala and other southern states. So, this requires the collective effort of the aggrieved states. Influencing the third segment depends on the political relations as well as the strength of each case and how it is articulated by Kerala. There is certainly a political angle here since regimes at the centre and in the state are politically opposed to each other.
None of these are likely to be resolved immediately to help the Kerala Government to overcome its present crisis. However, efforts should continue to address them with the cooperation and collective efforts of other states.
The workable alternative, both to overcome the current crisis as well as to create a sustainable public finance system, is to undertake measures aimed at maximizing the state’s own revenue without increasing the tax burden on the people. In my view, there is considerable room for that by way of additional resource mobilization and expenditure rationalization.
I am not in favour of aggregate expenditure-cutting given the backlog as well as the future scenario regarding un- and under-employment of eligible citizens, the declining share of the productive sectors of agriculture and industry, second generation challenges in education and health and increasing economic inequality. Hence the emphasis on expenditure rationalization and not aggregate expenditure-cutting.
My suggestions are not comprehensive but only selective but good enough to eliminate the revenue deficit.
1. Increasing tax and non-tax collection efficiency: This is called State’s Own Revenue. Its efficiency is measured by expressing it as a ratio of the state income (usually expressed as GSDP or NSDP). That is to say, the number of rupees collected for every 100 rupee of state income. In Kerala’s case there is a strong case for including the annual remittances (from abroad) in its state income as it accrues to the household economy and becomes part of their disposable income. I have computed this income and called it Modified State Income (MSI) the details of which are given in my study Kerala Model of Development Revisited (Working Paper 510, Centre for Development Studies, Thiruvananthapuram). It is also published as a book in Malayalam titled Kerala Vikasana Mathruka: Oru punarvichinthanam (Kerala Sasthra Sahitya Parishad, Thrissur. Available from 15 January 2024). Going by a long-term growth period, the well-performing period was during 1975-86 in whatever way the denominator is taken (NSDP, GSDP or MSI). This period was taken based on a long-term analysis of Kerala’s growth performance for the last 60 years. As one can see in the graph, the best period is, in fact, a period between 1978-79 and 1992-93 with an average Own Revenue to state income (NSDP) ratio of 12.83.
By any measure, the drop in Own Revenue-to-state income ratio measure is between 3 to 4 percentage points between the late 1970s/late 80s to the present (see the Figure below).
The Budget Papers of last year show a ratio of 8.4 percent as the Own Revenue to GSDP. The increase envisaged for 2023-24 is only 8.6 percent, a very timid increase indeed. Given the recent announcements of the government saying that the Own Revenue collections are increasing I hope the ratio will be higher than 8.6. In my view the target for Own Revenue collection should be a ratio of at least 12 i.e., collecting Rs.12 for every rupee of state income within the next three years or so.
If this ratio is increased by one percentage point every year for the next three years, it will fetch an additional amount of Rs. 12,450 crores in 2024-25, Rs.26,140 crores in 2025-26 and Rs.41,200 crores in 2026-27. It will then reach an Own Revenue-GSDP ratio of 11.4. Based on this goal post, every effort should be made to maximize the collection of tax and non-tax revenue.
The gap in potential tax collection and actual tax collection is due to several factors of which two are most important. One, inadequate administrative/technical capacity or efficiency. Two, the ability of tax payers to evade taxes often through corruption and collusion. Inadequate inspection or detection or recovery or a combination of these are certainly an issue. Monitoring on a sustained basis of taxes paid by large tax payers on a commodity/service wise categorization is called for. This could be done through applying big data analytics and such other advanced IT tools that are currently available with IT companies.
It is pertinent here to recall that a test purchase survey carried out by the Department of GST Intelligence found that 45 percent of the trading establishments do not pay bills to the purchasers. One hopes that effective follow-up measures have been taken to stop this blatantly corrupt practice.
Taxes are paid by consumers. The establishments are supposed to collect and transfer it to the government. There is absolutely no question of any harassment of the business sector when inspections are conducted to verify whether such transfer of tax money from the consumers to the government is taking place. That message should go loud and clear.
Non-tax revenue: The rate of decline in the non-tax portion of Own Revenue as a percentage of GSDP is much higher than the Tax to GSDP ratio. This is mainly due to the lack of indexation of non-tax items expressed as absolute amount to reflect the inflation in the economy. Another part is due to declining efficiency in collection. As an immediate measure, it is important to fix targets and responsibilities to the concerned departments and agencies to attain full collection. The work on indexing the non-tax revenue that were fixed in absolute terms – and not as rates based on a reference value as in the case of taxes – should be initiated forthwith.
It is quite unfortunate that hardly any details are available on tax revenue collected under GST in the state by commodities and services. Even group-wise details are not available. This is in sharp contrast to the detailed information available in Budget Papers for items under non-Tax revenue collections. Even items with a total collection of a few thousand rupees are given. It is crucial to provide detailed data on commodity and service-wise tax collection under GST in the Budget Papers to understand the trend in commodity/service wise tax collection as well as to analyse them for periodic inspection, checking and gauge tax evasion and/or underpayment. It will also be a valued source of data for experts to analyse the data to plug loop holes and suggest measures for better collection and to gauge the financial health of the economy. I hope the Finance Minister will ensure the publication of the details and ensure transparency in an area which is so crucial to understand the management of public finances. It is also incumbent on the Members of the Legislature to demand such detailed information on GST collection like the one given for non-Tax items.
2. Raise retirement age: Taking into consideration the significant increase in life expectancy of people in Kerala since the fixation of a very low retirement age in the 1970s, which is now the highest among all states, there is a strong case for fixing the retirement age at 60 (for those who are currently required to retire at 56) which is the prevalent age for Central Govt employees as well as those in several states. If political compulsions come in the way, the least the state government could do is to raise it by two years as recommended by the Sunil Mani Committee on Expenditure Rationalization (2020) of which the Finance Secretary was a Member as well as the Convener. The savings in this account has been worked out to be Rs. 5,266 crores per annum for every year of extension of the service.
Will it affect the job prospects of the youth seeking government employment? If the age of retirement is extended by two years, they will have to wait two more years to apply for the vacancies created by retirement (around 21-23 thousand per annum). This can be reduced to one year if the first year of appointment is treated as training-cum-internship period with a stipend equivalent to half the starting salary. However, their service will start from the date of completion of the training/internship period. This means the waiting period will be reduced to just one year. A partial compensation could be thought of if the government decides to fill the vacancies other than those arising out of retirement in various departments as well as government-aided institutions such as Universities, Statutory Boards, Academies, institutions registered under Charitable Societies Act and so on. For a tabular view of the options available before the state government, see Table 1 given below.
Ideally another partial solution is to create new employment. But that is begging the question because the measure is being recommended to reduce the expenditure burden in the short run. However, if local self-government institutions increase their revenue collection efficiency, they may be able to create new employment at the local level. The same argument is applicable to the public sector enterprises. Unfortunately, they are a net financial burden to the exchequer than an enabler of employment creation through reinvestment of profits/surplus. As a matter of fact, the total employment in all public sector enterprises declined from 1.39 lakh in 1988 to 1.29 lakh in 2020.
However, the stronger argument for extending the age of retirement is based on the significant increase in life expectancy as well as the loss of experienced staff especially in departments and agencies with a high content of professional skills. Research carried out at the International Institute of Population Studies, Mumbai, reported that there has been a 30-year increase in life expectancy in Kerala between 1956 and 2014-18 i.e., from 45 years to 75.3 years. Further the increase in life expectancy between 1976 and 2016 was 10 years. Calculations of life expectancy at age 55 showed that it increased from 18.3 years in 1976 to 21.8 years in 2016. Given the fact that the average years of service of a government employee in Kerala is only 23 years, the pension payment for many employees exceed the average years of service (Jose and Sekher 2021 in Demography India, Volume 50:1, 2021). In 2019, the percentage of service pensioners above the age of 75 years was 25.2 percent.
3. Collection of tax and non-tax arrears: The recovery of tax and non-tax arrears should have been taken up on an urgent basis every year. The Budget Papers show that as of March 2022, the accumulated arrears was Rs.19,924 crores of which arrears which are not under dispute is Rs. 12,724 crores. One wonders why is the state government so helpless even to collect tax revenue arrears which are not in any dispute. If one-third of this amount is collected every year starting with 2024-25, the state government will get an additional amount of Rs. 4,261 crores for the next three years.
4. Eliminate the system of annual encashment for leave surrender: The Sunil Mani Committee (2020) reports that the financial burden on the government because of annual surrender of leave for encashment is around Rs.1,000 crores every year. It also reports that this system does not exist in any other state or the central government. One understands that in these states as well as in central government, employees are allowed to encash their accumulated earned leave at the time of retirement subject to a maximum of 300 days. There is no rationale for continuing this financially burdensome system and as such it should be brought on par with other states by allowing encashment only at the time of retirement.
5. Reduce borrowing to slow down interest payment burden: The interest burden of the Kerala government is 20 percent (or slightly more) of the total revenue. This is double the share of all states in the country. What it means is that one-fifth of the total revenue is not available for any real expenditure and the cycle of perpetual indebtedness could reach a more serious impasse than at present. Therefore, eliminating revenue deficit should be the immediate priority. That will take away two thirds of the net borrowings.
There are a couple of other things that the Government could do that will greatly enhance their image. These are spelt out below.
6. Ceiling on the price of vehicles purchased by government departments and institutions receiving budgetary support: There was a time when ostentatious expenditure was absent among the members of both political and executive bureaucracy. With the spread of neoliberal economics influence, the situation seems to have changed. One such is the purchase of expensive luxury vehicles by various departments and institutions for the use of the political and administrative officials. A ceiling on the price of say Rs.10 lakh would be a desirable anti-dote to this tendency. Given the discounted price for government purchase of vehicles as well as no tax payment, this will at least be equivalent to a market price of Rs.13-14 lakh for non-official purchases. Suh a ceiling should be made applicable to all departments and institutions receiving government aid. How much savings in expenditure will be realized depends on the average number of vehicles purchased every year. The price of a Toyota Crysta (that is said to be the favourite among many in Government) in 2023 ranges from Rs.18 to 26 lakh. This means that for every 100 cars purchased, there will be a saving of Rs. 9 crores to Rs. 13 crores.
I understand that most of the cars purchased by the Government of India for its officials including Secretary Rank is the Suzuki Ciaz whose price range from 10 to 13 lakhs but available for a discount for the government.
7. Health Insurance instead of cash reimbursement for MLAs and any other categories: Instituting a health insurance scheme for Members of the Legislature instead of the entitlement of unlimited reimbursement of expenses in the name of health care. The benefits of such a scheme should be limited to self, spouse, and children below 18 years and dependent parents. This might be a symbolic one but an ethical one that will go a long way in spreading a positive image of the political class.
8. Ceiling on Maximum Pension: I would also root for a limit on government pension to the retired employees till such time the state government is able to eliminate the revenue deficit. This could also act as an ‘incentive’ to collect the tax and non-tax revenue more vigorously. What should be the ceiling could be decided by the government on the ground of ‘reasonableness’; I would place it at Rs.50 thousand per month. I understand that the maximum pension for Members of Legislative Assembly is Rs.50 thousand. The unemployed youth of the state would wholeheartedly welcome this if the savings could be directed to create public employment in areas where there is a critical deficit of personnel as in faculty positions in higher education, agricultural extension personnel, IT/ICT-savvy personnel for many departments, and so on.
9. Summing Up: An approximate calculation of additional revenue as well as savings due to expenditure rationalization in case of adoption of the above measures is presented in Table 2. Needless to say that there are many other suggestions in various reports submitted to the government.
Recent reports in the newspapers tell us that the government will have to resort to borrowing from the state cooperative banks to pay the monthly salaries and pensions to its employees and former employees. Is this not a sign of financial emergency? It could then call for a short-term cut in salaries and pensions instead of Plan expenditure that are meant for capital investment for the economic development of the state. If the employees and former employees are willing to tighten their belt at a time of financial crisis and agree say, for a 20 percent cut in their salaries and pensions (after protecting the low paid employees), the finance minister will get a savings of Rs.13 to 14 thousand crores (2024-25). Hopefully, it will also send a powerful signal to the Government of India of the intensity of the crisis. I am personally not happy with this suggestion but the idea here is to point out to the ‘price’ that the Kerala’s governance system will be compelled to pay for the lack of support from the Centre as well as its own tax collection inefficiency. A one percentage-point increase in Own Revenue collection will obviate the need for such drastic measure as the cut on the payment of salaries and pensions suggested here.
Educated unemployment, especially among the young women, is an extremely serious problem. Its dimensions are not only a matter of public finance but also deeply personal and social affecting unemployed people’s sense of dignity, self-worth, and the social benefit arising out of their employment. In my view, a part or full of the savings under items B2 to B5 in Table 2 could be directed to the objective of creating additional employment as a full compensation for the delay in recruitment because of the extension of retirement-age. For a budget of Rs.1,200 crores per annum for such a scheme, 50 thousand youngsters could be employed on a Development Fellowship or Contract basis, with a monthly average salary of Rs.20 thousand, to support the decentralized development process and/or ecological regeneration programme that seems to have gone out of government agenda in any serious manner. We should note that this additional employment is more than twice the number of government employees retiring every year. Is this too much to ask for?
This option will be a powerful one to get the whole-hearted support of the youth in general and their organizations in particular for extending the age of retirement to 60 years.
Medium Term Recommendations for Increasing Resource Mobilization
1. Enforcing financial discipline among public sector organisations: Most of the state public sector enterprises do not submit their audited accounts on time say, within a year of the completion of the accounting year on 31 March. As on 31st March 2021, 34 PSEs are in arrears in submitting audited accounts for three or more years including 5 PSEs with an arrear of above 6 years. 25 PSEs have not reported the status of their backlog in auditing accounts. They should be given a year to update the arrears in submitting the audited accounts failing which strict action should be taken. No budgetary support should be extended to those enterprises failing to meet this basic criterion of financial discipline.
2. Budgetary subventions for performing social functions: Expert committees or bodies should be created to measure the loss of revenue of individual public sector enterprises in the event of their performing social functions arising out of government policies; as for example, concession in travel fare for students using the services of KSRTC. These amounts should be provided as budgetary subvention. Once the balance sheets are modified in this manner, strict measures should be taken to check losses and make a minimum profit.
3. Ensuring a minimum return on capital invested for all PSEs: Based on item 2 above, every PSE should strive to achieve a minimum return of 10 percent on capital invested. PSEs failing to achieve this objective as well as those with arrears in submitting audited accounts within say, two years, should be subjected to a detailed scrutiny and forensic auditing by an independent expert team.
4. Time and cost overruns of projects: These are a perennial source of draining of scarce public financial resources. Part of the problem is in scattering scarce capital funds across many projects without assigning any priority. A recent report, based on an interview of a former senior officer, (Mathrubhumi Newspaper of 7 January 2024) cites the case of Pallivassal Hydro-electric Project with a time-overrun (hence cost-overrun) of 12 years from 2011 when the project was supposed to be completed. A realignment of expenditure priority should be brought about to complete projects based on their current position and assigning priority. For example, projects which have completed 70 percent or more works should be given the highest priority for allocation and completion within a well-defined time frame followed by others in a descending order of degree of completion.
Some Other Issues
Accountability of KIIFB
There is a significant gap between the amount of money received and raised by the KIIFB and the actual disbursement. The current practice of KIIFB is depositing the surplus as Fixed Deposits in various commercial banks at very low rates of interest.
Given this experience, the state government should consider giving project-based grants to KIIFB based on DPRs in place of untied grants. In any case, the untied grant may be suspended for the next two years given KIIFB’s comfortable financial surplus.
It should be made mandatory for KIIFB to present project-wise details giving the date of approval, date of starting, estimated time of completion and estimated cost as in DPR, and the status in actual expenditure and time taken. For projects that have not been started but approved, project-wise details of date of approval along with estimated time for completion and cost should be given. Such crucial information is lacking in its
Annual Report that it calls “Report to the Kerala Legislative Assembly for the Financial Year 2021-22”.
Frequency in Pay Revision
Recommendations of the 11th Pay Commission Recommendations
I fully agree with the following recommendation of the 11th Pay Revision Committee.
In its Report (Part 1 as well as in Part VII), the Commission’s recommendation reads as follows:
“According to the practice followed in Kerala in the recent past, the revision of pay and allowances has been happening every five years. The compounding effect of such revision would take the State employees’ scales of pay much higher compared to those of the Central government and most State governments. The last revision in the Centre was with effect from 01.01.2016 and the likely date of effect of the next revision will be 01.01.2026. We are now proposing the revision with effect from 01.07.2019, and if the next revision is made with effect from 01.07.2024, the pay scales will go up to levels which society at large will not accept. Therefore, the Commission recommends that the next revision of pay and allowances in the State should be only after the next pay revision in the Central Government.”
(The author is a Development Economist. He is an Honorary Fellow of the Centre for Development Studies, Thiruvananthapuram)