The Sixteenth Finance Commission (FC) operates in a fiscal and institutional context markedly different from that of earlier commissions. Elevated public debt following the pandemic, the growing use of off-budget financing, the dismantling of the Planning Commission, and the increasing emphasis on market-oriented reforms have reshaped India’s fiscal federal architecture. Among the major recommendations to address states’ financial distress is the nudge to reform electricity distribution companies (DISCOMs).
Bleeding entities
DISCOMs are a major source of fiscal stress for states. Although electricity is on the Concurrent List, state governments exercise primary control over distribution and tariff policy, while bearing the fiscal and political consequences of pricing, subsidies, and operational inefficiencies. Persistent DISCOM losses constitute one of the largest quasi-fiscal deficits in the economy. These losses stem from tariffs set below cost, delayed tariff revisions, high aggregate technical and commercial (AT&C) losses, inadequate metering, and unpaid government dues. Political constraints, particularly in relation to agricultural and domestic consumers, limit states’ ability to rationalise tariffs.
From a fiscal perspective, the problem is exacerbated by off-budget financing. While discom borrowings may not immediately appear in state budgets, they eventually materialise as explicit liabilities through guarantees, bailouts, or debt restructuring.
Three bailouts
Three explicit DISCOM bailouts since 2001, weakening the finances of the affected states each time. A One-Time Settlement Scheme in 2001 cleared H41,473 crore debt to the coal and power Central public sector undertakings. The second one came in 2012 as financial restructuring plan. It allowed state governments to take over 50% of DISCOMs’ liabilities and convert them into bonds for banks to restructure the debt. The third bailout was the Ujjwal DISCOM Assurance Yojana (UDAY), which allowed states to assume 75% of the DISCOM debt. Yet, DISCOMs continue to bleed. The 16th FC suggested the proactive promotion of privatisation as remedy. However, such proposals raise concerns regarding affordability, access, and distributive equity, particularly for vulnerable groups.
Welfare vs freebies
Freebies refer to subsidies or transfers provided without explicit cost recovery. Constitutionally, however, welfare expenditure falls within the legitimate policy domain of elected governments, and no formal distinction exists between essential social spending and so-called freebies.
Finance Commissions have approached this issue through the lens of fiscal sustainability rather than normative judgment. The principal concern is not welfare spending itself, but its mode of financing. When recurring subsidies are financed through borrowing or off-budget mechanisms, they risk undermining long-term fiscal stability and shifting the burden of current consumption to future taxpayers.
Equally important is programme design: poorly targeted subsidies may lead to inefficiency and leakage, whereas well-designed transfers can reduce poverty, address regional disparities, and stabilise consumption during economic shocks. Finance Commission discussions emphasise transparency in subsidy accounting, periodic review of welfare schemes, and avoidance of debt-financed current expenditure, while recognising the democratic legitimacy of welfare choices.
State public sector enterprises
State Public Sector Enterprises (SPSEs) represent a heterogeneous segment of state economies. Originally established to promote industrialisation and correct market failures, their performance has varied widely. Many SPSEs are persistently loss-making or inactive, imposing fiscal costs through operating losses, capital infusions, and contingent liabilities.
Recent policy debates advocate a differentiated approach to SPSE reform, distinguishing strategic and natural monopoly enterprises from commercial entities operating in competitive markets. For the latter, options such as disinvestment, closure, or public–private partnerships are proposed to reduce fiscal burden. However, large-scale privatisation raises concerns relating to employment, regional development, and service access. Moreover, linking central assistance to SPSE reform introduces conditionalities that may constrain state autonomy.
Discom expenditure and SPSEs illustrate the evolving terrain of fiscal federalism, where efficiency, equity, and autonomy intersect. While Finance Commissions emphasise discipline, transparency, and reform, state-specific conditions complicate uniform solutions. A sustainable federal framework requires balancing fiscal responsibility with constitutional autonomy and developmental diversity.