. it increased further to 2. 41 per cent during 2000 - 04. similar movement was exhibited by the gross fiscal deficit ( gfd ) as well. this has had a significant deleterious impact on the states ’ social expenditures including on education and health. developmental expenditure as a percentage of gdp had declined from 9. 92 per cent during 1990 - 95 to 8. 97 per cent during 1995 - 2000. expenditure on social services in general and education and health in particular witnessed a fall as a percentage of gdp during the second half on the 1990s as compared to the first half. the fall in states ’ expenditure on education and health due to fiscal deterioration impeded their role in promoting human development. table 2 : deficit indicators and social expenditure of states ( as percentage of gdp ) period developme social gfd ntal services education expenditure expenditure expenditure rd 1990 - 95 0. 71 1995 - 2000 1. 65 2000 - 04 2. 41 2004 - 05 re 1. 44 2005 - 06 be 0. 75 re : revised estimates, 2. 82 9. 92 3. 45 8. 97 4. 28 9. 35 4. 00 10. 18 3. 21 9. 35 be : budget estimates notes : rd : revenue deficit, 4. 88 4. 84 4. 98 5. 08 4. 94 2. 62 2. 59 2. 67 2. 47 2. 39 health expenditure 0. 81 0. 75 0. 71 0. 69 0. 70 gfd : gross fiscal deficit education includes sports, art and culture health includes family welfare with active initiatives of the states towards fiscal correction and consolidation, some signs of improvements have been visible in state finances in the recent period. the revenue deficit as a percentage of gdp came down to 1. 44 in 2004 - 05 ( re ) which is budgeted to further decline to 0. 75 per cent in 2005 - 06. similarly, gfd as a percentage of gdp was reduced to 4. 00 per cent in 2004 - 05 from the average of 4. 28 per cent in 2000 - 2004 and is budgeted to decline further to 3. 21 per cent in 2005 - 06. with improvement in state finances, there is a reversal of the trend of developmental expenditure also. the ratio of developmental expenditure to gdp increased to 10. 18 per cent in 2004 - 05 compared to an average of 9. 35 per cent during 2000 - 04. states ’ expenditure on social services witnessed similar movement during the comparable period. however,

average euro area cumulative increase of around 14 %. in spain, unit labour costs grew in total by around 26 % over this period, compared with less than 2 % in the case of germany and around 4 % in the case of austria. differing developments in unit labour costs across the euro area countries from 1999 to 2007 appear to be largely the result of differences in the growth rates of compensation per employee. however, in a few countries, including spain, the cumulated productivity growth rate over the nine - year period of reference appears to have been outstandingly low, also contributing to above average increases in unit labour costs. persistent differences in labour cost developments have important implications for the price and cost competitiveness of individual countries and, therefore, an impact on a country ’ s current account balance through labour costs per unit of output, which are usually computed as compensation per employee divided by labour productivity. the export channel. most of the euro area countries that experienced a sizeable loss in price and cost competitiveness over the period 1999 - 2007 appear to have also seen a worsening in their current account positions. in particular, in spain, the current account reached a deficit of 10 % of gdp. three main factors can explain relatively strong cumulated labour cost or price increases in individual countries. first, there are factors that can be linked to the real convergence and economic integration process of a country. in practical terms, however, it is extremely difficult to disentangle the portion of the price and labour cost differentials that may reflect an adjustment to a new equilibrium level. second, a lack of flexibility in product and labour markets can create, in the case of adverse shocks, persistent relative price and cost increases in the countries affected. the close link between the persistence of wages and inflation may be related to institutional features, such as the presence of some form of automatic price indexation of wages which continues to exist in some countries, including spain. and third, an economy can suffer a long period of strong demand pressures. these pressures may initially be related to either country - specific demand shocks or an excessive reaction to common shocks, which are then exacerbated by overly optimistic expectations on the part of consumers or firms regarding future income prospects. this situation may be further intensified by an insufficiently tight fiscal stance. such a situation is likely to lead to an inflationary process and cumulated losses in competitiveness. moreover, the impact may be seen not only on goods and services prices but also on asset price inflation, notably