Higher borrowing can see FY21 combined fiscal deficit hit 12%: Economists

The government has raised the borrowing limit of states from 3 per cent of gross state domestic product (GDSP) to 5 per cent in 2020-21, and in the process, has risked a higher combined fiscal deficit for financial year 2020-21 (FY21), say economists.

Potentially, there can be Rs 4.28 trillion in borrowing by states, says Madan Sabnavis, chief economist at CARE Ratings, which is equivalent to the higher borrowing of the centre already announced. “This means if both centre and states go at this target, combined fiscal deficit can be in the region of 11 – 12 per cent in FY21,” he cautions.

The net borrowing ceiling for 2020-21 was earlier pegged at Rs 6.41 trillion (3 per cent of gross state domestic product), and the states have thus far borrowed merely 14 per cent of this authorised limit. Despite this, they have been urging the Centre for a special hike to 5 per cent in order to fight the economic stress triggered by the Covid-19 pandemic.

“While the increase in deficit limits for states might be subject to revision, we assume they will utilise their additional deficit headroom of 5 per cent of GSDP, with a further 1 per cent of off-balance sheet spending, which would put the consolidated government deficit at 12 per cent of GDP, relative to 8 per cent previously. This implies an overall borrowing requirement of close to Rs 25 trillion,” said Rahul Bajoria, chief India economist at Barclays.

The caveat here, however, is that the borrowing will be linked to specific reforms in public distribution systems, ease of doing business, power distribution and urban body revenue sharing. This effectively allows the same increase in borrowing as by the central government, which increased its own issuance programme two weeks ago, analysts say.

Sabnavis, however, says the states now need to get their act together in doing reforms, targeting urban local body (ULB) revenue, ration card related measures and undertake steps that facilitate ease of doing business.

“The four conditions are quite open-ended and would have to be defined by the centre or else there could be ambiguity. Another 0.5 per cent can be had if three of these reforms are met. Potentially there can be Rs 4.28 trillion of borrowing by states, which is equivalent to the higher borrowing of the Centre already announced,” Sabnavis says.

Those at HSBC say that the markets were expecting a more immediate demand-side stimulus. “True that some measures to remove immediate distress are contained within the package. However, a large part of the attention has been towards medium-term supply side measures. The idea here may be to raise the medium-term growth potential, which will help fund future liabilities, and lower public debt. Expectation of higher medium-term potential growth may even help raise short-term risk capital, and ease funding constraints,” said Pranjul Bhandari, chief India economist at HSBC.

Despite the Rs 20 trillion stimulus, Nomura still expects the Indian economy to contract 5 per cent in 2020.

"The government has aimed for maximum bang for minimum buck, with most of the relief either regulatory in nature or reflecting in its contingent liabilities rather than explicit budgetary support. Meanwhile it has used the cover of the COVID-19 crisis to plough through long pending, politically sensitive structural reforms. As a result, the package may fall short of mitigating the near-term existential crisis for businesses and workers, but is better designed to improve India’s medium-term growth potential and attract long-term risk capital," wrote Sonal Varma, managing director and chief India economist at Nomura in a May 17 co-authored report with Aurodeep Nandi.