Monica Jain
Introduction
India has emerged as one of the fastest growing economies in the world. After the liberalization of the economy in 1991, governments both at the Union and State levels initiated various reforms and encouraged investments to promote economic growth in the country. One of the crucial factors to encourage economic growth is the macro-economic stability of the country. In this regard, the fiscal policy of the country needs to be given utmost importance. The Union government in 2003 introduced the Fiscal Responsibility and Budget Management (FRBM) Act by building a national consensus on fiscal responsibility. However, in the backdrop of the recent pandemic, there has been a concern over the country’s public finances, particularly at the State level. While the FRBM Act mandates a Debt:GDP ratio of 20%, and an annual Fiscal Deficit threshold of 3% for the States, many states are not adhering to these statutory limits.[i]
Article 293 of the Indian Constitution mandates that a State cannot borrow without the prior consent of the Union government, subject to certain conditions. Furthermore, Article 293 also gives the Union government the power of impose conditions as it deems fit, to provide consent for a state’s borrowing. Using this Article, the Union government places a limit on the annual borrowing by State governments. However, the State of Kerala challenged the authority of the Union government under Article 293 to include borrowings of the State’s public sector undertakings while determining the annual borrowing limit for the State. Kerala’s contention has given rise to an important constitutional and legal question. In a federal country, are the States free to determine the financial resources they can raise as public debt? Ultimately, the State government is also democratically elected. Therefore, there is an argument that a state government should have the flexibility to determine the borrowing it needs to fund its socio-economic projects.
In this essay, we argue that the Union government’s power to regulate a State’s public debt under Article 293 is not curtailed by any limitations. In fact, the constituent assembly debates and Article 360 [ii] (Financial Emergency) clearly indicate that the Union government has the ultimate responsibility and authority over fiscal management.
Public Finances and Unsustainable Debts
Post the pandemic, there have been reports that India’s public debt has increased sharply and that several States are already spending well beyond their means. The FRBM Act mandates that the Debt to GSDP ratio should be 20% for the States. However, the combined debt of States’ is at 29.5% in FY 2022-23.[iii] In fact, some States are at much higher debt levels – e.g.: Punjab: 48%, Himachal Pradesh: 44%, Rajasthan: 40%, Kerala: 39%, West Bengal: 34%.[iv]
In this context, the Union government, utilizing the power provided under Article 293, imposed a strict borrowing limit for all the State governments, as per the limits prescribed in the FRBM Act. However, in the recent past, such borrowing limits have been criticized by various State governments. Most recently, the State of Kerala contended that under Article 293, the Union government only has the power to limit State’s borrowing from the Union government, and not from other sources such as banks and other financial institutions.
Deciphering Article 293
Article 293 of the Indian Constitution deals with the subject of ‘Borrowing by States.’ In the context of the Indian fiscal framework, the clauses (3) & (4), give the Union government the authority and responsibility to regulate States governments’ borrowings. An excerpt is given below-
Clause (3): A State may not without the consent of the Government of India raise any loan if there is still outstanding any part of a loan which has been made to the State by the Government of India or by its predecessor Government, or in respect of which a guarantee has been given by the Government of India or by its predecessor Government.
Clause (4): A consent under clause (3) may be granted subject to such conditions, if any, as the Government of India may think fit to impose.
A reading of the above-mentioned provisions clearly indicates that:
i. A State cannot borrow without the consent of the Union if the State has an outstanding loan from the Union government; or the State has an outstanding loan for which the Union government has given a guarantee.
ii. The Union government has the power to impose conditions it deems fit to grant the consent to allow the State’s borrowing.
One of the important arguments put forth by the State of Kerala in the case State of Kerala vs. Union of India, is the interpretation of the term “any loan.” The State of Kerala argued that the term refers to loans from the Union government only. Therefore, under Article 293, the Union only has the power to regulate such loans and not all loans. However, the honorable Supreme Court opined that prima facie, the argument does not hold validity and did not grant any relief.
In this context, it should be noted that Article 293 does not restrict the policies or choices of the democratically elected State government. However, when read in the backdrop of the constituent assembly debates and Article 360, as explained in the subsequent section of this essay, Article 293 has been adopted into the constitution to ensure that the Union has the power to carry out its responsibility as the guardian of the macro-economic stability of the country.
Fiscal Federalism and Union’s Regulatory Power over Subnational Debt
Given that India is a Federal country, the Union governments authority to regulate State borrowings may give rise to the question of erosion of State’s autonomy. As per India’s federal structure, States’ autonomy to manage their own revenues and expenditure according to the local requirements needs to be protected. However, in India, States cannot go bankrupt. The Union government has the ultimate responsibility to protect and preserve the financial and fiscal stability of the country. This is clear from the wording of Article 360 (Financial Emergency). The constitution makers did not envisage States to be independent fiscal entities in the context of the financial stability of the country. Under Article 360, the powers of Union government to deal with financial emergencies in the whole or part of the country include directing States to observe “such canons of financial propriety as may be specified.”
Article 360(1) states, “If the President is satisfied that a situation has arisen whereby the financial stability or credit of India or of any part of the territory thereof is threatened, he may by a Proclamation make a declaration to that effect.“
Article 360 also gives the Union government the power to completely take over the financial management of a State during financial emergency. The Union government may resort to extreme measures such as giving directions to curtail the salaries of government employees.
Even during the constituent assembly debates, there was a consensus that India is an indivisible unit in terms of the overall fiscal management. Shri K. M. Munshi, a member of the Drafting Committee and the Union Powers Committee made the following points:
“This article in the Constitution is the realization of one supreme fact that the economic structure of the country is one and indivisible. If a province breaks financially, it will affect the finances of the Centre: if the Centre suffers, all the provinces will break. Therefore, the interdependence of the provinces and the Centre is so great that the whole finance integrity of the country is one”[v]
In this context, it is also worth noting the Supreme Court’s remarks in the State of Kerala vs. Union of India case. The court’s remarks that the State itself is responsible for its financial hardship and such hardship cannot be a ground for a relief against the Union government. It is important to note that Article 293 (3) and 293 (4) only regulate the borrowing of the States and do not prescribe conditions on how the State should deploy its financial resources. In addition, the Supreme Court also opined that if relief is granted to Kerala, it would set a bad precedent and would enable other states to flout fiscal policies. As Article 293 has never been substantially dealt by the Supreme Court, the case has been referred to a five-judge bench.
The Constitution does not intend to leave a State to its own devices completely in terms of fiscal management. There is no provision in the Constitution which explicitly says the Union government has no power to regulate State borrowings. Furthermore, the explicit wording of Article 360 and Article 293, clearly indicate that the Union government has responsibility to ensure financial and fiscal stability of the Indian Union. Article 293 is a framework that ensures that State governments are autonomous in their functioning, while it also protects the Union’s financial stability by giving the regulatory power of State’s borrowing to the Union government.[vi]
Mounting debt burden and poor financial management at the State level are great threats for the macroeconomic stability of the nation. Therefore, there is a need to balance States’ fiscal autonomy and the fiscal health of the nation. Ultimately, according to Article 1,[vii] India is a Union of States. The subject of Union government’s regulatory power over States’ borrowings is still an uncharted territory, as Supreme Court has not dealt with the issue in detail. However, going by the Constituent Assembly debates, Article 293, and Article 360, it can be concluded that presently, the Union government’s power to regulate States’ borrowing is not limited and that the Union, being the ultimate guarantor of the financial stability, also has the responsibility to regulate States’ borrowings to ensure fiscal stability.
Endnotes:
[i] Fiscal Responsibility and Budget Management Act, 2003 (Act No. 39 of 2003) (Ministry of Finance, Department of Economic Affairs, 26 August 2003).
[ii] Constitution of India (art 360).
[iii] Reserve Bank of India, ‘State Finances: A Study of Budgets’ (Dec 11, 2023).
[iv] Foundation for Democratic Reforms, Preserving Growth Momentum (August 2023).
[v] Constituent Assembly of India, Constituent Assembly Debates, Official Report (Volume X, 1949) 371.
[vi] Foundation for Democratic Reforms, Preserving Growth Momentum (August 2023).
[vii] Constitution of India (art 293).
The Author is a 2nd-year student at Mahindra University.
This Article is the 2nd Runners-Up in the 2nd NLUO-CLS Essay Writing Competition, 2024
Image Credit: Money Metals
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