RBI data strengthens Kerala’s case on ageing and fiscal stress. Will Centre listen?

When Kerala Finance Minister K N Balagopal raised the issue of ageing at a pre-Budget consultation for the Union Budget 2026–27 in New Delhi on January 10, it was not merely a plea for more funds. It was a warning that India's fastest-ageing state is running up against fiscal limits that a uniform national budgeting framework can no longer address. The Reserve Bank of India's (RBI) latest report, 'State Finances: A Study of Budgets of 2025–26', lends strong empirical backing to this argument, making the case that states like Kerala require a fundamentally different fiscal treatment compared to their younger counterparts.

Kerala's median age is around 37 years, far higher than that of youthful states such as Bihar, where it is about 23. Along with Tamil Nadu, Kerala is classified as an "ageing state", defined as one where at least 15 per cent of the population is aged 60 and above. By 2036, the elderly are projected to account for 22.8 per cent of Kerala's population, or roughly 8.4 million people, the highest proportion among all Indian states. This marks an advanced stage of demographic transition, characterised by a shrinking demographic dividend and steadily rising age-related expenditure.

The RBI report cautions that Indian states are moving through demographic transition at vastly different speeds, making a one-size-fits-all approach to public expenditure increasingly untenable. Fiscal priorities, it argues, must reflect each state's demographic profile. While youthful states need to focus on education and skilling to absorb a growing workforce, ageing states like Kerala require greater spending on healthcare, pensions and social security. 

"Kerala needs to rethink its budget allocations in the context of the changing demography. We have seen schools and colleges shutting down in the state despite substantial investments. We should instead invest in systems that empower and engage the ageing population. It is unfortunate that we still do not have enough studies on the elderly or dedicated policy groups for them," says S Irudaya Rajan, Chair of the International Institute for Migration and Development.

Rajan argues that pension reform must also be part of this rethink. “We should also think of introducing universal pensions for the elderly that offer a basic sum for sustenance, on the lines of the Nepal model," he says. "This is a population that will make up 20 per cent of the state. If you look at them as a vote bank, they could easily determine the political future of Kerala. Even politically, it makes sense to invest in them.”

Differing spending patterns
Spending patterns across states underline this divergence in needs. An RBI analysis of social sector expenditure over four benchmark years from 2010–11 to 2024–25 shows that education dominates social spending in youthful states, followed by pensions, urban development, health and social security. In 2024–25, youthful states allocated about 35 per cent of their social sector budgets to education, reflecting their emphasis on human capital formation. In ageing states, however, education and pensions claim nearly equal shares, followed by social security. On average, ageing states now spend close to 30 per cent of their social sector outlay on pensions alone, highlighting the mounting fiscal burden of ageing.

While the ratio of own revenue to revenue expenditure remained strong in Kerala at over 61 per cent between 2023–24 and 2025–26, well above the national average, this has not translated into higher developmental spending. Development expenditure stood at just 39.9 per cent in 2024–25, the second lowest among states after Punjab. Non-developmental expenditure, meanwhile, continues to dominate, placing Kerala at the top nationally on this count.

Interest payments absorbed over 18 per cent of revenue expenditure in 2024–25, the second-highest among states. The ratio of interest payment to revenue receipts has climbed to 22.4 per cent, nearly double the all-states average. Pension spending remains elevated as well, accounting for 17 per cent of revenue expenditure, compared to the national average of 11.3 per cent. 'Youthful' states such as Bihar and Chhattisgarh spend barely 7 per cent on pensions.

Kerala’s debt-to-GSDP ratio is projected at 35.5 per cent by March 2026, still far above the 20 per cent ceiling recommended by the FRBM Review Committee. Together, these indicators suggest that committed expenditure and debt servicing are crowding out development spending at precisely the moment when age-related demands are accelerating.

Unfavourable labour market trends compound Kerala's challenge. Unlike youthful states with expanding workforces, Kerala's working-age population is projected to shrink from 62 per cent in 2026 to 59.5 per cent by 2036. The RBI warns that ageing can strain state finances in two ways at once: by pushing up pension and welfare expenditure while simultaneously eroding the tax base.

Way forward
To manage these risks, the report calls for the creation of fiscal buffers, improvements in public finance quality and a series of structural reforms. One key recommendation is to factor the elderly population into the tax devolution formula, a move that could significantly shift inter-state resource allocation in favour of ageing states. The RBI also urges reforms in healthcare financing, greater emphasis on preventive health systems, extension of working lives to boost labour supply, productivity enhancements for older workers and policies that facilitate interstate migration. Measures to improve work–life balance for women, including affordable childcare, are also seen as critical to ensuring higher female labour force participation does not adversely affect fertility.

"Despite the fiscal constraints, Kerala needs to find additional resources by boosting its own revenues and investing in the care economy. We have already requested the 16th Finance Commission to consider Kerala's demographic changes while deciding tax devolution. Since we are already at a low fertility level, it is difficult for us to reduce it further. We have also requested grants-in-aid for the second generation. Demarcating a portion of panchayat funds for the care economy is another option," says Anitha Kumari, Associate Professor at Gulati Institute of Finance and Taxation.

The existing devolution framework works against states like Kerala. The 15th Finance Commission assigns a weightage of 15 per cent to population and 12.5 per cent to demographic performance, both indicators that disadvantage low-fertility states. Population projections by IIMAD and PFI suggest Kerala's population will remain roughly stagnant at 35.5 million in 2051, the same as in 2021. Uttar Pradesh, by contrast, is projected to grow from 234.9 million to 307.2 million over the same period. 

Kumari also points to the role of private investment in easing the care burden. “Like European nations, the government should try to create an ecosystem that can retain our youngsters in the care economy. They should be accredited caregivers, given skill training and recruited from campuses. The government should set a basic minimum salary that is sufficient to prevent outmigration. Dignity of labour and dignity of life should go hand in hand,” she says.

In that context, the RBI's findings offer more than academic validation. They strengthen Balagopal's argument that demographic ageing is a structural fiscal challenge, not a temporary imbalance. The timing is also crucial. The 16th Finance Commission's recommendations, which will determine the distribution of the net proceeds of taxes between the Union and the states, inter-state allocation, grants-in-aid and financing arrangements for disaster management, are set to take effect from April 1, 2026, for a five-year period. Whether the Union government uses this opportunity to recognise demographic ageing as a core fiscal parameter and recalibrate its allocation frameworks accordingly, or persists with a one-size-fits-all approach that risks widening regional disparities, will shape not just Kerala's fiscal future but the broader balance of India's federal compact.