RBI Study Uncovers Demographic Gaps: Why States Need Different Budget Allocations as They Age
The Reserve Bank of India's annual study of state finances has revealed a crucial insight: Indian states are progressing through demographic transitions at markedly different paces. This divergence necessitates tailored fiscal approaches and budget allocations, moving beyond traditional deficit-focused analyses to address the unique challenges posed by varying age structures across the country.
Divergent Demographic Paths Across States
The RBI's comprehensive analysis of state budgets for 2025-26 highlights significant variations in demographic indicators. The old-age dependency ratio, which measures the elderly population as a proportion of the working-age group, ranges dramatically from 14% in Bihar to 30% in Kerala. Similarly, fiscal deficits as a percentage of Gross State Domestic Product show wide disparities, with Arunachal Pradesh exceeding 8% while Gujarat maintains a deficit below 3%.
These differences create fundamentally distinct fiscal environments. Youthful states with expanding working-age populations have a valuable window of opportunity for economic growth, provided they implement policies emphasizing quality education, skill development, healthcare infrastructure, and employment generation. In contrast, aging states face mounting pressures from shrinking tax bases and rising committed expenditures on pensions and healthcare, requiring enhanced revenue mobilization and structural reforms.
Implications for Fiscal Federalism and Revenue Sharing
The study's findings carry profound implications for India's system of fiscal federalism. Under the Constitution's Seventh Schedule, expenditure responsibilities between the Union and state governments are clearly defined. However, revenue sharing has traditionally been determined by Finance Commission awards every five years, with population serving as a key criterion for distribution among states.
This approach has frequently created tensions between states at different stages of demographic transition. States with younger populations often argue they require greater resources to invest in human capital development, while aging states emphasize their need for support in managing healthcare and pension burdens. The RBI's analysis provides crucial context for evaluating the upcoming recommendations of the 16th Finance Commission, suggesting that more nuanced criteria may be necessary to address these divergent needs effectively.
Broader Economic and Social Considerations
While the RBI study focuses primarily on fiscal implications, the demographic divergence it identifies has broader consequences. Internal migration patterns are likely to intensify as working-age populations move from populous states to regions with better employment opportunities, potentially creating social tensions between local residents and migrants.
Furthermore, these demographic shifts will influence political representation following the 2027 Census, potentially redistributing parliamentary seats and altering state power dynamics. The study also notes improving overall fiscal health among state governments, with consolidated liabilities declining from 31% of GDP in 2020-21 to 28.1% in 2023-24, despite a temporary increase in fiscal deficits due to central government capital investment loans.
Toward More Informed Policy Debates
The RBI's emphasis on demographic factors in state finance analysis represents a significant advancement in understanding India's fiscal landscape. By highlighting how age structures shape revenue generation capacity and expenditure requirements, the study provides a framework for more sophisticated policy discussions.
As states navigate their unique demographic trajectories, customized approaches to education, healthcare, pension systems, and labor market policies will become increasingly essential. The research underscores the need for ongoing dialogue about how fiscal resources should be allocated to address these varying challenges, potentially informing more equitable and effective revenue-sharing arrangements in the future.
