Are Indian states getting adequate fiscal support for the next five years?

Wherever it settles, there is some reprieve for labour-intensive export sectors. But that prospect is now overshadowed by the fear of what renewed hostilities in West Asia will do to trade flows and the price of oil.

The advance estimate of GDP released a month after the Union budget is ₹345.5 trillion for the current fiscal year. At the budget projection of 10% nominal GDP growth next year from the new base, the estimated GDP for 2026-27 drops from ₹393 trillion to ₹380 trillion. Does the nominal growth rate itself need to be upped from 10% because of the real impact of trade deals with the EU and US?

The trade deals are a long way from being finalized. Their impact on India’s GDP growth rate will be visible only in 2027-28. That is also the year in which the new pay scales of the 8th Pay Commission will become operative, with arrears due for 15 months. The resulting rise in fiscal expenditure in 2027-28 may possibly get offset by higher growth in GDP and tax revenues that year. But for 2026-27, it is best to leave the nominal growth rate at the budgeted 10% because of new uncertainties around trade and oil prices.

The Union budget announced acceptance of all recommendations of the 16th Finance Commission (FC) for the years 2026-31. But because the FC report was downloadable only after the budget speech, no FC-related grievances were aired while the budget speech was on. This was the first speech in recent years which ran with no interruptions from House members.

The 16th FC adopts the same 41% tax share for states (of gross central tax revenue excluding cesses and surcharges) prescribed by the 15th FC, which initially went with the 42% tax share of the 14th FC. It was reduced to 41% when Jammu and Kashmir (J&K) state was given Union territory status (and so fiscally folded into the Union). The 16th FC could have opted to revert conditionally to 42% when the Supreme Court’s order restoring statehood to J&K is implemented, but chose not to.

Finance Commissions also recommend absolute grants to states. If accepted by the government, the sum of the tax share and grants constitutes the aggregate statutory commitment to states for five years. The 16th FC prescribes only two grants (both accepted). The 15th FC had five, of which three were accepted and two rejected.

Both FCs have the same tax share of 41%, but the 16th FC’s overall statutory provision with two grants added on works out to 44.7% of shareable Union tax revenues (as projected), lower than the 49.3 % of the 15th FC with only its three accepted grants included. This comparison in terms of percentages is perfectly valid, although of course actual tax share receipts are a function of realized tax receipts which often differ from FC projections.

The two rejected 15th FC grants were among those dropped by the 16th FC. In addition, the 16th FC has abolished the revenue deficit grant for states whose current expenditures exceed the sum of projected revenues including tax share receipts. Its abolition, however, need not be mourned because it was problematic, for several reasons not possible to delineate here.

In view of the 16th FC’s smaller number of grants, it could have been more generous with the two prescribed: for local bodies and disaster assistance.

Local governments (municipalities and panchayats) are responsible for maintenance of water supply, sewerage and rainwater drainage. The ministry of health, in response to a Parliamentary question, quoted a study showing a staggering rise after 2021 in killer water-borne diseases like cholera, typhoid, leptospirosis and various types of hepatitis.

Groundwater and pollution monitoring (at state government level) is handicapped by unfilled vacancies, for lack of resources to meet salaries.

The local grant is ₹7.9 trillion for the five years 2026-31. But 18.3% of the total is subject to performance conditionalities like having to increase local tax revenue, and at the state level, raising fiscal transfers to local bodies. Undisbursed performance grants will be deflected to performers (para 10.101 of the report), which will worsen the inequality of disease incidence both within and between states.

Fortunately, states get other non-statutory capital grants from the Centre. The hugely popular Scheme for Special Assistance to States for Capital Investment (SASCI) provides funding from which sewage and waste treatment plants can be built or repaired, mechanical cleaners installed and leaking pipes replaced. The choice of capital projects is left to states, although in recent years an increasing proportion is hedged by other reform conditionalities.

SASCI is budgeted at ₹1.85 trillion for 2026-27, as against the statutory local grant for the year of ₹1.01 trillion. What matters critically is whether SASCI funding is used by states to redress the disastrous rise in incidence of water-borne diseases.

The author is an economist.