Apt spending must win our state-level fiscal tug-of-war

States must spend more on capital projects that can secure future growth than on freebies and subsidies

- ADITYA SINHA

State governments often walk a tightrope between social demands and fiscal sustainability—a predicament Alberto Alesina captured by warning of "too large and too small" governments. Over-expansion can result in inefficient expenditure without necessarily catalyzing growth, while under-investment risks leaving public infrastructure and welfare services inadequate.

At the heart of this tension lies the distinction between revenue and capital expenditure, a divide central to the ongoing freebies debate. Revenue outlays—spending on salaries, subsidies, and day-to-day administration—can meet immediate needs and provide short-term political dividends. However, excessive reliance on such outlays risks inflating deficits without creating lasting value. Freebies may offer momentary relief but often come at the expense of growth-enhancing capital investments.

This is why the case for prioritizing capital expenditure is compelling. Capital outlays fund the creation of assets that not only bolster productivity, but also generate long-term fiscal dividends by expanding the tax base. The multiplier effect of capital expenditure is well-documented; every rupee spent can stimulate demand across sectors, create jobs and attract private investment. A 2013 study by Sukanya Bose and N.R. Bhanumurthy shows that capex has the highest impact on economic growth, with a fiscal multiplier of 2.45, compared to 0.98 for transfer payments and 0.99 for other expenditures.