By Aasheerwad Dwivedi
Over the next few decades, most of the countries, including India will go through a significant energy transition to achieve their Net Zero targets. This would entail a steady reduction in the share of fossil fuels like coal, oil and natural gas, along with increasing share of greener sources of energy in the overall energy portfolio.
India has pledged to move to Net Zero by 2070, though the energy transition is happening at an even faster pace. The installed solar energy capacity stands at 82.63 GW as of April 2024, increasing by 30 times in the last 9 years.
Though this energy transition is important and inevitable, it is bound to create various changes. One impact that is often not appreciated fully is the ‘Fiscal Impact’ given India’s high dependence on fossil fuel revenue. Both central government and state governments impose a multitude of taxes, cesses, duties and even non-tax levies such as dividends and royalties on fossil fuels. And the amount collected is not insignificant. Bhandari and Dwivedi (2021) (https://shorturl.at/VSjoT ) estimated that revenue collected from these sources amounted to approximately 3.2% of GDP in 2019-20, out of which 2% was for centre and 1.2% was for states. To understand its importance, know that this amounted to 20.8% of revenue for the union government and 8.3% for the state government.
Going forward, with the transition away from fossil fuels, the revenue from these sources will decline correspondingly. The same paper estimated that if the transition takes at the current pace, total revenue would reduce to decline to 1.8% by 2030 and 1% of GDP by 2040. This raises a big question in front of the government- both centre and state on how to raise revenues from other avenues.
The challenge doesn’t end here. Another issue is that not all states will be affected uniformly! Bhandari and Dwivedi (2022) ( https://shorturl.at/8wVN3 ) found that currently states like Jharkhand, Chhattisgarh, and Madhya Pradesh obtain 22%-23% of their Own revenues from coal, oil, and natural gas combined. In contrast, Gujarat, Haryana, Karnataka get 14-15% and Delhi gets 8%. So, naturally the fiscal impact of moving away from the fossil fuels will vary widely across states, with some states taking much bigger hit.
Now this would have been less problematic had the renewable capacity of the states would have been in the same proportion. However, that is not the case as the renewable energy potential is largely dependent on geographical conditions. States like Gujarat, Maharashtra, Rajasthan etc. located in the western regions have highest renewable capacity in the country. On the other hand, the eastern states like Odisha, Chhattisgarh, and Jharkhand which are also the ones more currently dependent on revenues from fossils have much lower renewable capacity. Hence, it is clear that the ongoing transition would create set of winners and losers within states.
Additionally, the states which will lose out more on account of revenues are mostly located in eastern part of the country with relatively poor socio-economic conditions. On the other hand, states in the western part of the country are the ones that are more comfortably placed and they are the actually the ones with relatively better socio-economic status.
On top of the fact that there is no possibility of putting tax on renewable energy to compensate for revenue loss in the near future, instead states provide subsidies for installation of solar panels, windmills etc. in order to promote the transition. Hence, the states which have lower capacity at the moment may have to entail bigger expenses on that account as well.
This shortfall in own revenue would mean that their reliance on fund transfers from centre would increase, creating additional impact in central government finances which will already be hit. This can lead to some key issues. Infact, the states which will be negatively affected may not cooperate fully in transitioning away. More importantly, if the policy makers do not device a mechanism to compensate the losing out states in time, it might have serious political economy consequences in times to come.
But it is not a completely unknown circumstances for India. Similar questions were raised during the implementation of GST. However, a GST compensation formula was devised which was key in creating acceptance of GST. Union government will need to do something similar in this case as well in order to ensure that not only the states are on board but the socio-economic disruptions are the least.
The easiest way could be that the Sixteenth Finance Commission comes up with a strategy for the same. Finance Commissions use different criteria for the interstate distribution of tax sharing across states in order to maintain horizontal equity reflecting its need in terms of population, area, infrastructure distance etc. Since the states will be affected differently by this energy transition in coming years, this this can be considered as a factor while deciding the devolution formula to ensure horizontal equity.
Aasheerwad Dwivedi, PhD is Assistant Professor of Economics at Faculty of Management Studies, Delhi University.
