The ongoing election season has drawn sharp attention to India’s fiscal health. While the Government of India’s fiscal metrics are keenly dissected and well understood, the fiscal situation of state governments tends to be less scrutinised. However, the rise in market borrowings of state governments and key policy changes in recent years have rekindled an interest among market participants on the fiscal health of states.
State budgets are a rich source of publicly available information on state government finances. A web of factors among states makes analysing their budgets both interesting and challenging. Additionally, the publication of monthly fiscal indicators by the CAG, albeit with modest lags, is useful in assessing emerging trends in state finances. Two additional sources of information are data on the states’ usage of ways and means advances and overdraft facilities extended by the Reserve Bank of India, and their market borrowings that are also facilitated by the latter.
The 2024-25 budgets or votes on account (VoA) are available in the public domain for 26 states (except Arunachal Pradesh and Sikkim). An analysis of the data they contain reveals that the states expect a 9.2 per cent growth in their combined revenue receipts this year. While this growth appears moderate, it hinges on the correctness of the base revenues indicated in the revised estimates for 2023-24, among other factors.
Around half of the total revenues of states is from states’ own tax revenues (SOTR). Therefore, a material deviation between the actual and indicated growth of own taxes can impact the expansion in the total revenues of the states. In the FY2025 Budget estimates (BE), the combined SOTR of the 26 states is set to expand by 13.8 per cent on the back of an even higher 15.4 per cent growth estimated in the previous year’s revised estimates.
Disappointingly however, the provisional data of many of the sample states for April-February 2023-24 indicates that the growth of key components of own taxes such as sales tax, state GST and excise duty was far below the levels included in the revised estimates. This implies that a much higher growth would be needed to meet the absolute level of targets in the FY2025 budgets if the actual revenues last year turn out to be lower than those assumed.
Another 40-45 per cent of the revenues of the states is accounted for by transfers from the Centre, taxes and grants. Taxes devolved by the Centre to the states are projected to increase by 10.4 per cent this year, in line with the growth indicated by the GoI in the interim Union budget presented in February 2024. States received an upside in their revenues on account of higher-than-budgeted tax devolution for three consecutive years during FY2022-24. Possible lack of prior knowledge about the timing of inflow of such additional devolution from the Centre may have been the reason for a deviation in the states’ planned and actual borrowings in many instances since that period. It would be interesting to see whether the GoI revises the amount of tax devolution for FY2025 in its final Union budget which is expected to be presented around July 2024.
Actual grants from the Centre to the states have consistently displayed significant variation from the revised/budget estimates made by the latter, particularly in the case of the Centrally Sponsored Schemes (CSS). The actual amount received from the Centre depends on the state spending its share under the CSS, adherence to the other guidelines of the Centre including submission of utilisation certificates etc. During April-February 2023-24, the combined grants of a sizeable subset of the sample states declined by a considerable 22 per cent, led by factors such as lower revenue deficit grants and the phasing out of GST compensation. Despite this, the 26 states have indicated a high 18 per cent expansion in grants in their revised estimates, followed by a 7 per cent contraction in their combined grants this year. We anticipate both of these figures to display a meaningful deviation from the estimates available right now.
On the expenditure side, the states have pencilled in a growth of 7 per cent and 11 per cent in their revenue and capital expenditures respectively.
The states’ capital expenditure had shown an impressive 27 per cent expansion in April to February 2023-24 according to the CAG data. However, the revised estimates built in a sharper 34 per cent surge in capital spending, which we suspect will have been missed, pushing up the required growth in capex in FY2025 into double-digits. We anticipate capital spending to kick off on a slow note in the first few weeks of the year with parliamentary elections underway and the lull to sustain until the final Union Budget is presented. The tepidness may unfortunately extend further during the monsoon months. Overall, capital spending by states this year is likely to end up being heavily back-ended, which may influence the timing of the states’ market borrowings over the course of the year.
Last year had ended on a particularly curious note on the state borrowing front. For the fourth quarter, the states had initially indicated a massive borrowing of Rs 4.1 trillion. This looked set to be undershot until February 2024, especially with the additional devolution released by the Union government at the end of that month.
However, the actual debt issuance during March 2024 amounted to a surprisingly large Rs 1.9 trillion, 51 per cent higher than the indicated amount of Rs 1.3 trillion. Several factors, such as a preference to hold larger cash going into the period of the model code of conduct, may have driven some states to expand their borrowings. It is also possible that some states have chosen to use up a larger part of their borrowing limit for 2023-24 before the year ended. Subsequently, in the first two auctions of this fiscal year, eight states have raised Rs 226 billion, nearly 40 per cent lower than the Rs. 373 billion indicated for this period.
With the fiscal deficit budgeted to be steady, and a slight step up in redemptions of state government securities, we project their gross borrowing to inch up to Rs 10.5-11 trillion in the current year. The anticipated FPI funds related to the bond index inclusion will ease the supply-demand dynamics in the government bond market as the year progresses. Further, with modest rate cuts foreseen from the Monetary Policy Committee in the second half of the year, the states’ borrowing costs are likely to trend lower during that period.
The writer is chief economist, head, Research & Outreach, ICRA
