Rethinking State Finances in a Fiat Currency World

When a prosperous state faces a funding shortfall, it’s absurd for the federal government to deny assistance based on a flawed grasp of modern money. The outdated view—that taxes fund spending—misses the mark in today’s fiat system.

For a state, taxes are revenue to fuel its budget. But for a federal government with the sovereign power to issue non-convertible fiat currency, spending creates money, and taxes simply pull it back out of circulation. Unlike the old gold-standard days, where currency was tied to reserves and spending relied on collected taxes, today’s federal government funds itself by issuing new money. This means taxes collected from states should stay with them to drive local growth, benefiting the whole nation. Denying states their revenue—or worse, withholding extra support—is a colossal injustice rooted in monetary misunderstanding.

The federal government can and should fund lagging states directly to lift their development, using its limitless currency-issuing power (constrained only by real resources, not finances). Why siphon state taxes only to redistribute them? Let states keep their revenue to spend locally, while the federal government steps in where needed—especially during crises like floods or pandemics.

This fiat system—floating exchange rates, no gold backing—frees us from artificial limits. The old rules of balancing budgets or capping borrowing don’t apply; the real ceiling is full employment and available goods. When spending falls short or taxes drain too much currency, economic activity stalls—just look at India’s demonetization for proof. The federal government, as the currency issuer, must spend enough to keep everyone working, ensuring money reaches every corner of a monetized economy. States, like citizens, are currency users—they need revenue to function. Handing them their full tax share is step one.

Another argument says states like Tamil Nadu get revenue from sales across the country, so they can’t claim all their taxes. But this misses the point. Exports are a real cost—goods and services sent out that could’ve served local needs. In this fiat system, where new money can be issued without gold or forex constraints, real wealth lies in optimizing trade-offs. Exporting to import makes sense, but beyond that, it drains resources that could raise local living standards, especially where consumption is unequal. The focus should be producing for state-level use, not just crediting exports to national sales.

We’re in a currency system where spending limits are tied to resources, not gold or deficits. Policymakers must wake up to this and ditch obsolete constraints. States held back by centralized tax grabs could triple their social and economic gains if freed to spend their revenue, with federal support filling gaps. The priority? Full employment, decent wages, and resilience against climate shocks or recessions—starting with the most vulnerable. Clinging to old fiscal dogmas drags us backward. It’s time to embrace what fiat money can do.

Rajendra Rasu