States' indebtedness remains elevated at near decadal high this fiscal
States' aggregate debt – as measured by debt to gross state domestic product (GSDP) – is likely to remain elevated at 33% this fiscal year, despite the post-pandemic recovery strengthening the declining revenue graph.
Last fiscal year, the ratio reached a decadal high of 34%. Sticky and increased revenue expenditure, along with the requirement for increased capital investment, will keep borrowings high this fiscal year.
Having said that, the Centre's decision to give Goods and Services Tax (GST) compensation loans at a higher amount of Rs 1.4 lakh crore (Rs 0.9 lakh crore in fiscal 2021) for the second consecutive year will bring some relief.
According to CRISIL's research of the top 18 states3, which account for 90% of aggregate GSDP, this is the case. States borrow largely to finance revenue account shortfalls and capital expenditures. While state revenue shortfalls increased in fiscal 21 as a result of increased revenue expenditures in the face of constrained revenues, capital outlays remained stable to maintain borrowing levels.
According to Ankit Hakhu, Director at CRISIL Ratings, "overall state revenue is predicted to increase 15% year on year in fiscal 2022, following a 3% fall last fiscal." As the economy improves, two significant revenue sources – GST and sales tax on petroleum items – which together account for 30% of state revenue, are projected to revive rapidly. The former might expand by 20% on the back of greater inflation and improved compliance, while the latter could expand by 25% on the back of volume recovery and higher crude oil prices.”
However, a 10%-11% year-over-year increase in revenue expenditure will offset the increased inflows. This will be facilitated by increased committed expenditure (on wages, pensions, and interest costs) and essential developmental expenditure (on grants-in-aid, medical, and labour welfare-related expenses), which together account for 75-80% of total revenue expenditure.
As a result, revenue account improvement will be limited, with the revenue deficit falling from Rs 3.8 lakh crore (or 2% of GSDP) previous fiscal year to Rs 3.4 lakh crore (1.6% of GSDP) this fiscal year. States will be forced to borrow money to cover this shortfall.
State expenditures on critical infrastructure sectors such as highways, irrigation, and rural development will increase the borrowing requirement. This is necessary to maximise future tax revenue, and states are likely to step up their efforts. While states budgeted for a 55% year-on-year increase in capital outlays to Rs. 5.6 lakh crore in fiscal 2022, we predict that growth will slow to 20% given the state's track record and already elevated fiscal deficit levels of close to 4%, considerably beyond historical levels.
Nonetheless, the Rs 1.4 lakh crore in GST compensation loans this fiscal year may alleviate some of the states' hardship. Additionally, this loan is not counted under the state borrowing cap of 4% of gross domestic product for fiscal 2022. The Centre would support the servicing of these loans from future GST cess collections.
According to Aditya Jhaver, Director, CRISIL Ratings, "as a result, total state debt, including guarantees, is anticipated to climb by Rs 7.2 lakh crore this year to Rs 71.4 lakh crore by fiscal year end." This will maintain states' indebtedness at a decadal high of 33%, just a notch below the decadal peak of 34% reached last fiscal.”
The math assumes a robust economic recovery with nominal GSDP growth of 15% this fiscal year. A stronger third wave than projected, resulting in the re-imposition of stringent lockdowns, might have a detrimental impact on economic growth and our projections.