India in Focus

Indian States are combating pandemic-induced revenue shortfalls

Steady Additional Borrowing for Indian States

The Central Government of India has been steadily increasing the borrowing status for Indian states. Dwindling revenues and resource crunch due to the Coronavirus pandemic, prompted the Centre to allow 50% of their FY21 borrowing requirements in April last year. The government allowed states to frontload their borrowing with an announcement that it might even consider relaxing the overall borrowing limits for states, in the future. The revenue crisis affected the payment of dues under various heads, including the goods and services tax and other grants, demanded by the states.

Again, in October, last year, the Ministry of Finance along with the Department of Expenditure, decided to grant permissions to 20 states under a special window to meet the financial shortfalls in GST’s compensation cess. Regions had highlighted the incorrect estimates of revenue growth revolving around GST. Growth projections for states were high but there was a low compensation outgo of Rs. 97,000 crores, not including the Covid-19 impact. The centre, therefore, opened up revised compensations of Rs.1.1 Lakh Crores through the special liquidity window.

In a recent move, the Centre allowed states to borrow 75% of the annual limit (out of the 4% of the GSDP) executing the frontloading as indicated in the previous year. With this, the states were meant to regain their spending momentum. Due to an evolving Covid-19 situation and the subsequent revenue constraints, the state governments were provided with the much-needed frontload increasing borrowing limits of their GSDP, given the current fiscal. There are rising spending commitments from the spike in Covid cases along with a simultaneous decline in Capex and downfall in quality spending.

The Centre mandated that states should spend 50 bps of the unconditional market borrowing limit to improve the quality of spending. Thus, the states saw an estimated Rs. 6.5 Crore in April-December given the nominal GDP estimate.

Note: Borrowing thresholds need an approval from the Centre after which, the states coordinate with the RBI or Reserve Bank of India, in order to schedule actual borrowings. The Indian government is practicing austerity but still opening its purses graciously for states to recover due to the Covid-19 pandemic. An expansionary budget was announced by the Union Government, with a focus on raising Capex. However, the severe pressure on state finances, have only made state governments even more cautious than the Centre in budgeting their additional spending.

When the pandemic first made its way into the states, it was assumed that finances would be hit but primarily due to the shortfalls in their own tax revenues. Unfortunately, the damage was much more than that. The states suffered more due to a deficiency in their share of central taxes. Any additional cesses imposed by the Centre might add to its kitty, but the states would still fall short, because these are part of a non-divisible pool of funds. Thus, a gaping hole was left in the state budgets.

pandemic-induced revenue shortfalls

NOTE: *Grants from the centre include funds for centrally sponsored schemes, Finance Commission grants and other transfers and grants. Analysis based on data from 21 states which have published budget figures this year.

Source: CMIE, state budget documents Get the data Created with Datawrapper

Past years’ experiences could also be limiting the state government’s appetite for greater spending. Any rise in central borrowing ultimately raises borrowing costs for states, because state government bonds are priced below central government bonds. Therefore, the Centre’s borrowings are much higher than the state borrowings.

pandemic-induced revenue shortfalls


At the same time, the Finance Ministe did express that frontloading of borrowings by the Centre and states would help harness the resources required to keep impetus of public expenditure, including Capex, in the current fiscal year.

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