Consolidated State Deficit On Course To Hit A 13-Year High, Warns JPMorgan
In the midst of the state election season, comes a warning from JPMorgan’s economists. Watch the election results but watch the finances of India’s state governments equally closely.
The country’s states are already spending more than the centre and unless there is a course correction, the consolidated deficit for states could hit a 13-year high this year, said Sajjid Chinoy and Toshi Jain of JPMorgan in a report dated February 22.
The consolidated state deficit had narrowed to 2 percent between 2010-12 but widened to 2.8 percent in 2015-16 (even without accounting for the UDAY scheme). In 2015-16, states exceeded their deficit target by 0.4 percent of GDP. In 2016-17, states have exhausted 60 percent of their budget deficit compared to 46 percent last year, noted JPMorgan.
If this run-rate continues, the consolidated fiscal deficit in 2016-17 could hit 3.4 percent of GDP (ex-UDAY) -- which would be the highest in 13 years.
That states are on course to an even larger slippage than last year. Recall, states had budgeted 2.4 percent of GDP in 2015-16 and the actual outturn (ex UDAY) is estimated at 2.8 percent of GDP – a slippage of 0.4 percent of GDP. In getting to that outcome, they had utilized 46 percent of their total budgeted deficit in the first eights months of the fiscal year (April to November). This year, however, from April to November – largely pre-demonetization – states have used up 60 percent of their deficit, a run-rate that is almost 30 percent higher than last year. If states continue at this run-rate, the slippage is likely to be closer to 0.6 percent of GDP this year, taking the actual fiscal outturn to 3.4 percent of GDP.Sajjid Chinoy & Toshi Jain, JPMorgan
The weakness in state finances is being driven both from the revenue side and the expenditure side. Revenues between April and November have grown only 6.4 percent compared to last year. Revenues from stamp duties, which are about 12 percent of state revenues, grew at just 3.5 percent. This segment may have only worsened in the post-demonetisation months as property sales slowed significantly.
While revenue growth slowed, expenditures have grown at a higher clip of 14.1 percent.
State Borrowings On The Rise
As state deficits have risen, so have borrowings. In 2016-17, state borrowings are likely to be 23 percent higher than the previous year and could overtake central government borrowings by fiscal 1019, cautioned JPMorgan.
In a separate report published on February 17, rating agency ICRA had also drawn attention to the rising state borrowings. The agency expects gross borrowings from state governments to rise to Rs 4.5 lakh crore in fiscal 2018 compared to Rs 3.7 lakh crore in fiscal 2016. The central government’s gross borrowings for fiscal 2018 are pegged at Rs 5.8 lakh crore.
The higher borrowings have led to an increase in the cost of borrowing, noted JPMorgan.
Typically, SDLs (state development loans) trade at a 40-50 bps premium over G-Secs in normal market conditions. And indeed, they did auction 45-50 basis points (bps) over G-secs till October. Since December, however, borrowing costs have increased, with spreads over G-secs rising to about 75 bps in the January and February auctions.Sajjid Chinoy & Toshi Jain, JPMorgan
JPMorgan further reiterated the need for market discipline in pushing states to curb excessive borrowings. While the quality of state finances varies significantly from state to state, the market makes almost no distinction between them.
“We attribute this to market perceptions of an implicit sovereign guarantee on state debt as well as a largely captive investor base, notwithstanding the fact that foreign portfolio investors (FPIs) are also eligible to hold state bonds (SDLs),” wrote Chinoy and Jain while adding that this market dynamic provides little incentive to states to improve their fiscal position.
While foreign investors are now allowed to invest in state bonds, only 3.5 percent of the limit has been taken up, shows data from the National Securities Depository Ltd.