MC Exclusive: With elections in mind, most states may use up 3% borrowing cap as freebies gain traction

In the last couple of years, state borrowings have been falling short of the indicative calendars.

The central government expects a majority of state governments to rely heavily on market borrowings, going ahead. They are likely to entirely use up the unconditional 3 percent ceiling for 2023-24 as several states opt for “freebies” to woo voters.

Andhra Pradesh, Telangana, Kerala, and Punjab are likely to lead the ranks in borrowing heavily via state development loans in a bid to fund fiscally profligate schemes announced by them, a senior finance ministry official told Moneycontrol.

The central government has been progressively lowering the cap on borrowings by state governments, in line with the recommendations of the Finance Commission. Though it was eased to 5 percent in 2021-22 to help states cope with the economic ramifications of the pandemic, in the current financial year, the ceiling, including those to undertake power sector reforms, has been capped at 3.5 percent of states’ gross domestic production -- lower than the 4 percent cap for 2022-23.

In the last couple of years, state borrowings have been falling short of the indicative calendars provided by the Reserve Bank of India (RBI). In the last fiscal, states borrowed around Rs 7.58 lakh crore in gross terms. Though this was higher than the 7.02 lakh crore for 2021-22, it was significantly lower than the provisional target.

According to a report released in March by the State Bank of India's economic research department, the gross market borrowings of states in 2023-24 is estimated at Rs 8.2 lakh crore. The report further said that states’ cost of borrowing was significantly dependent on the Goods and Services Tax (GST) compensation from the Centre.

From April-August 28, state governments have borrowed around Rs 2.72 lakh crore as against the scheduled amount of about Rs 4.37 lakh crore for the first half of the current fiscal. Though it is yet to be seen how much states borrow in September, the numbers reveal that borrowings are trending way lower than the indicative calendar.

To be sure, the official said that states are also leaning on off-market sources of funding, from the likes of NABARD (National Bank for Agriculture and Rural Development), since the 3 percent cap on borrowing also includes those avenues.

‘Gujarat, Maharashtra, and Odisha might not borrow heavily’

This official said that “a few big states like Gujarat, Maharashtra, and Odisha might not borrow heavily because of buoyant tax revenues, and absence of old debt.”

Many attributed the states’ ability to reduce their reliance on market borrowings in the past few years to higher tax devolutions, compensation in lieu of GST, as well as disbursement of interest-free capex loans to states.

But with the Goods and Services Tax (GST) compensation period ending in June 2022, state governments have lost an important source of funds even as many of them are announcing populist schemes, ahead of elections.

While Rajasthan, Madhya Pradesh, Chhattisgarh, and Telangana are set to go to polls in the last couple of months of 2023, election at the national level is also less than a year away.

Several states like Rajasthan, Chhattisgarh and Madhya Pradesh have announced welfare schemes ranging from income guarantee plans to free or subsidised electricity in their Budgets for 2023-24.