Pennywise, the central villain, in the horror thriller ‘IT.’ (Source: Warner Bros.)  

Ghosts of Loans Past Coming Back to Haunt India's States

(Bloomberg) -- Indian states raked up debt to fund widening deficits after the global financial crisis. They may now have to borrow more to meet repayment commitments, a report from the central bank showed.

Redemption pressure on states, which normally issue plain vanilla bonds with 10-year maturity, increased from the year ended March 2018, according to the Reserve Bank of India’s Study of State Finances. That implies that their borrowings are expected to soar.

The maturity profile of states’ debt indicates near to medium-term stress related to repayments, which is likely to peak in 2026-27. That underscores the risks for investors in the nation’s bond market, where yields on benchmark 10-year notes are already up around 49 basis points this year, after an 81 basis points rise last year.

Borrowings by states have almost doubled between fiscal years ended 2013 and 2018, with the trend picking up after the 2008 global financial crisis when there was a step up in spending as part of the federal government’s stimulus measures. States are scheduled to borrow up to 1.38 trillion rupees from the market in the July to September quarter, up from 1 trillion during the same period last year.

Ghosts of Loans Past Coming Back to Haunt India's States

“The wedge in the net and gross market borrowings indicates the increasing redemption pressure, which is likely to persist," the RBI said.

States’ debt sales are in addition to federal borrowings in a year when Prime Minister Narendra Modi’s government missed its budget deficit targets and many see the stress building ahead of 2019 federal polls when public spending usually rises.

And there is no respite in store from state governments either, with some like Rajasthan and Madhya Pradesh likely to step up debt issuance as they go to polls later this year.

The central bank has already flagged fiscal slippages due to populist measures like farm loan waivers as well as higher salaries to government officials.

“If the likely slippage is reflected in higher borrowing requirements for 2018-19, there could be a concomitant impact on borrowing costs," the RBI said.

The central bank criticized the spate of farm-loan waivers, saying these can deflect states from achieving fiscal prudence. Since the actual write-offs granted by states during 2017-18 have been below budgeted levels, it is likely the pending debt waiver promises would spill over into coming years, squeezing developmental spending and boosting inflation, it added.

Ghosts of Loans Past Coming Back to Haunt India's States

“If the waivers are not targeted efficiently, coupled with structural productivity constraints in the farm sector, the potential for these waivers contributing to inflationary pressures via higher fiscal deficits remains a key concern," the RBI said.

©2018 Bloomberg L.P.