Finance Commission’s RDG Cut Threatens Hill States Like Himachal Pradesh
The abrupt discontinuation of Revenue Deficit Grant (RDG) based on the 16th Finance Commission’s (FC) recommendation has shocked most hill states, particularly Himachal Pradesh. A careful reading of chapter nine of the FC report reveals that all states, including special category hill states, have been treated alike. The reasons for this departure from established principle are general rather than state-specific, as are the calculations. This not only runs contrary to Article 275(1) of the Constitution but also ignores the structural disabilities of states like Himachal Pradesh.
The discontinuation of the Revenue Deficit Grant (RDG) to Himachal Pradesh, stemming from the recommendations of the 16th Finance Commission, represents a significant fiscal challenge for the state. This decision, impacting a region already grappling with debt and unique economic constraints, raises questions about equitable resource allocation and the future of hill state economies. The RDG, which previously contributed nearly 13 percent of Himachal Pradesh’s total budgetary requirement, acted as a crucial support system for managing salaries, pensions, and essential welfare schemes.
A Constitutional Provision Under Threat
At the heart of the issue lies Article 275(1) of the Indian Constitution, which allows for sums to be paid to states “in require of assistance.” During debates surrounding the Constitution’s formation in 1949, Dr. B.R. Ambedkar emphasized that “need of assistance” should be the primary metric for determining grant-in-aid. However, the terms of reference for the 16th Finance Commission reportedly omitted these key words, a point of contention highlighted by officials. The commission itself acknowledged the importance of assessing the “need of assistance” when determining revenue gap grants, but its final recommendations did not reflect this principle.
The Unique Challenges of Hill States
Hill states like Himachal Pradesh face inherent structural disadvantages. These include difficult terrain, higher infrastructure costs, limited industrial growth, and low tax buoyancy – factors consistently recognized by research and past Finance Commission reports. The cost of delivering services and building infrastructure in these regions is significantly higher than in the plains. These states are particularly vulnerable to natural disasters, a risk amplified by climate change. Himachal Pradesh, for example, has experienced substantial losses in recent years, with damages reaching ₹20,000 crore in the last three years alone.
Beyond disaster relief, hill states provide significant ecological services to the nation. A study by the Indian Institute of Forest Management (IIFM) assessed that Himachal Pradesh alone provides services, including natural carbon sinks, watershed sustenance, and biodiversity, worth ₹90,000 crore. These benefits accrue to other states, yet the costs are borne by Himachal Pradesh through limitations on land use and development. The state maintains a self-imposed ban on scientific felling to protect its extensive forest cover, which comprises 68% of its territory.
The Impact of GST and Historical Context
The implementation of the Goods and Services Tax (GST) has also presented challenges for Himachal Pradesh. As a non-consumer state with a small domestic market, it has been disadvantaged by the destination-based tax system. Revenue growth during the pre-GST period was reportedly higher, even accounting for GST compensation. Between 2019 and 2025, the state received nearly ₹48,000 crore in RDG under Article 275 of the Constitution. This grant was continuously received since 1952, but the amounts have been decreasing in recent years: ₹10,249 crore in 2021-22, ₹9,377 crore in 2022-23, ₹8,058 crore in 2023-24, ₹6,258 crore in 2024-25, and ₹3,257 crore in 2025-26. The complete cessation of these grants from 2026 represents an unprecedented situation for the state.
Financial Strain and Debt Burden
Currently, Himachal Pradesh’s total debt exceeds ₹1.03 lakh crore. The discontinuation of the RDG is expected to further strain the state’s finances, potentially making it difficult to cover even basic expenditures like employee salaries and pensions. The state government was reportedly expecting nearly ₹50,000 crore in RDG for the period 2026-2031. With debt servicing consuming a significant portion of its borrowing capacity, the state faces a precarious financial situation.
What Happens Next? Potential Solutions
Given the severity of the situation, several potential solutions are being considered. One option is a temporary ad-hoc allocation from special central assistance to compensate for the loss of the RDG in the 2026-27 budget. Another is allowing affected special category states an additional 2-3% market borrowing limit to manage the immediate crisis.
Looking ahead, the formation of a high-powered committee to reassess the revenue gap and explore debt restructuring is crucial. This committee could realistically assess the needs of affected states while also encouraging them to commit to expenditure rationalization and revenue enhancement. The situation demands urgent attention from the central government to prevent the reversal of developmental gains in the Himalayan region. The New Shimla Times provides further details on the financial crisis facing Himachal Pradesh.
The writer is principal adviser to the Himachal Pradesh chief minister and a former chief secretary. Views expressed are personal.