UDAY scheme might affect state finances

The Reserve Bank of India (RBI) on Thursday said the power sector reforms scheme UDAY might have adverse implications for state finances on account of burgeoning liabilities due to takeover of 75 per cent of the existing debt of discoms and hurt growth by impacting developmental expenditure

RBI's report 'State Finances: A Study of Budgets of 2015-16' said there are some areas of concern regarding the impact of UDAY on state finances over the medium term.

Although the effect may not be instantaneous, state finances might come under stress in the coming years on account of burgeoning liabilities due to takeover of 75 per cent of the existing debt of discoms, it said.

"This would considerably reduce the fiscal space of states which might lead to curtailment of capital expenditure with an adverse impact on growth," the report said.

Furthermore, the interest burden of states would inflate with immediate effect, destabilising fiscal outcomes and resulting in a deviation from the fiscal consolidation path as well as the targets set by the 14th Finance Commission.

With UDAY coming into operation, "it is unlikely that states will be able to shrink their deficits, which puts pressure on the Centre to adjust more".

As many as 10 states have formally joined UDAY or the Ujjwal Discom Assurance Yojana. Under the scheme, the Centre allows state governments, which own the discoms, to take over 75 per cent of the debt as of September 30, 2015, in two years and pay back lenders by selling bonds. For the remaining 25 per cent dues, discoms have been allowed to issue bonds.

The scheme is expected to help discoms save around Rs 1.8 lakh crore in the next three years. The cumulative debt of discoms is Rs 4.37 lakh crore.

The RBI report further said UDAY holds the potential to reduce the vulnerability of banks by strengthening their balance sheet through an improvement in asset quality.

With improvement in the financial health of state discoms, the counter-party risk for banks may also come down.