The Hindu Business Line : Debt swap: Budget booster for States

The Central and State governments have mutually agreed to introduce a debt-swap scheme that will use the low interest rate regime to help States prepay expensive local loans taken from the Government and thus save an estimated Rs 81,000 crore. What is noteworthy, says G. Srinivasan, is that the scheme will restrain the debt build-up in States through the small savings scheme.

THE beleaguered States with their mounting debt burden may receive some comfort from the Budget. The Finance Minister, Mr Jaswant Singh, has drawn attention to the huge Rs 2,44,000 crore owed by the States to the Government of India. Of this, a little over Rs 1,00,000 crore bear coupon rates upwards of 13 per cent per annum, much in excess of the current market rates. As a result, the interest burden of the States now comprises a major item of expenditure for them, leaving little leeway for even managing quotidian expenditures.

It is in the light of this situation and to alleviate the fiscal woes of the States that the Central and the State governments have mutually agreed to introduce a debt-swap scheme.This aims at utilising the current low-interest rate regime to enable States prepay expensive local loans contracted from the Government of India in the past with current low coupon bearing small savings and open market loans.

Over a three-year span ending in 2004-05, all State loans to the Government of India bearing coupons in excess of 13 per cent would have been swapped. In consequence, the States will save, at the very minimum, an estimated Rs 81,000 crore in interest and deferred loan repayments. What is noteworthy is that the scheme will restrain the debt build-up in States through the small savings scheme.

In the current year, 20 per cent of the net small savings loans payable to States from September will be used to prepay past debt. This will be complemented by Rs 10,000 crore of open market borrowings for the same. In 2003-04, 30 per cent of the net small savings, complemented by additional market borrowings, will be used for the swap. In fiscal 2004-05, the swap would be effected through 40 per cent of net small savings and additional open market borrowings.

All States have agreed to the proposed debt swap scheme. While Maharashtra and West Bengal have resolved to take part in the scheme from the next fiscal, the other States have agreed to participate from September 2002 in the current fiscal.

Even as efforts go on towards translating the debt-swap scheme into reality by working out the modalities, the Budget proposal to bring into vogue the value added tax (VAT) is indubitably a historic reform of the archaic domestic trade tax system. Besides eliminating cascading of taxes, the advent of VAT is likely to increase revenues as the coverage widens to include value addition at all stages of sale.

Despite the initiatives to bolster the precarious fiscal position of States, ultimately it is the States that have to help themselves if they have to stay solvent and execute development programmes with long-term benefits and gains in the form of wealth creation and employment generation.

Unfortunately, the situation as it exists now in regard to State finances make dismal reading. The country's apex bank, the Reserve Bank of India (RBI), while analysing the State government Budgets of 2002-03, says in a monograph, that the States have been encountering fiscal stress in recent years as demonstrated from large and increasing fiscal and revenue deficits.

After witnessing continuous deterioration during from 1996-97 to 1999-2000, their fiscal position showed some modest improvement in 2000-01 when the gross fiscal deficit (GFD) of the States declined from Rs 91,480 crore (4.7 per cent of GDP) in 1999-2000 to Rs 89,532 crore in 2000-01 (4.3 per cent of GDP).

But this improvement could not be sustained, and as per the revised estimates for 2001-02, the States' GFD rose to Rs 1,06,595 crore (4.6 per cent of GDP) which was also higher than the Budget estimate of Rs 95,087 crore (3.8 per cent of GDP). For the current fiscal, the GFD is budgeted lower at 4 per cent (Rs 1,02,848 crore) as the various State Budgets for 2002-03 have forecast improvement in the major deficit indicators with fiscal reforms being undertaken by them.

A worrisome feature of the expenditure pattern of States is that the growth rate in developmental expenditure at 4.1 per cent in 2002-03 will be far lower than the growth of 11.7 per cent in non-developmental expenditure.

Within developmental expenditure, the growth in expenditure on social and economic services will decelerate to 3.5 per cent and 5.7 per cent respectively in 2002-03 from 13.9 per cent and 9.6 per cent in the previous year. The share of developmental expenditure in the total expenditure will decline from 58.8 per cent in 2001-02 to 57.1 per cent in 2002-03.

What is disquieting is that under non-developmental expenditure, the major items — interest payments, expenditure on administrative services and pensions — are budgeted to account for 30.8 per cent of the total expenditure and absorb 43.3 per cent of the total revenue receipts of the States in 2002-03.

While the revenue deficit of all the States taken together is estimated to account for 47 per cent of GFD, the State-wise position indicates that revenue deficit will account for more than 60 per cent of the GFD in the case of Kerala, West Bengal, Tamil Nadu, Punjab, Gujarat, Rajasthan and Maharashtra.

The RBI has noted with dismay the significantly high proportion of GFD as having originated from the revenue deficit.During the first half of the 1990s, the revenue deficit accounted for about one-fourth of the GFD, while in recent years it has moved up to around 57-59 per cent. "This implies that more than one-half of the borrowed funds are utilised to meet the revenue expenditure," the study said conceding that "the declining share of developmental expenditure indicates deterioration in the quality of expenditure". Hence the apex bank's prescription for appropriate expenditure management to whittle down the spending on items of non-essential expenditure.

A cursory glance at States' debt and guarantees will be an eye-opener as to how almost all the States have been living beyond their means. At the end of March 2002, the combined outstanding debt of States amounted to Rs 5,89,218 crore. Between end-March 2001 and end-March 2002, the States' debt rose by 18.3 per cent. As a percentage of GDP, the debt stock of States rose to 25.7 per cent at the end of March 2002 from 23.7 per cent at end-March 2001. The debt-GDP ratio of States is estimated to increase further to 26.7 per cent by end-March 2003.

Yet another disturbing trend in State finances is that outstanding guarantees provided by the States for projects put up in the States had increased from Rs 42,515 crore at end-March 1993 to a staggering Rs 1,66,116 crore at end-March 2002 for as many as 17 major States, even as the apex bank has been "sensitising" the States to honour the guarantees given by them and extend guarantees "within sustainable and manageable limits".

The RBI points out that since many banks and financial institutions have exposure to State guaranteed debt, "prompt discharge of guarantee-related obligation" becomes crucial for "the health of the financial sector as well."

The state-owned enterprises, or public sector units, are another area of concern. It is a serious reflection of the functioning of the PSUs that as on end-March 2001 there were 834 state-level units, out of which 358 were loss-making and another 185 non-working. The average rate of return on capital invested in State Electricity Boards (SEBs) that account for the bulk of the States' investments in the PSUs has been persistently negative.

The RBI study rightly says there is an urgent need to realise commensurate returns from these assets since the States are required to provide large budgetary support to the loss-making enterprises, causing additional burden on their brittle finances.Even as the disinvestment process from the Centre has distinctly slowed down despite tall targets by way of proceeds being assumed in every Budget, 17 States, including frontline industrial ones, have zeroed in on 222 PSUs for disinvestment/winding up/restructuring.

There is no substitute for taking up fiscal reforms to restructure finances, and put them on a sustainable basis through divestment, downsizing of government staff and administrative expenditure, besides tax and non-tax resource mobilisation measures to stave off the fiscal crisis that threatens to assume insurmountable proportions.

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