Ind-Ra: Capital Expenditure May be the Soft Target to Accommodate Maharashtra Farm Loan Waiver

The Maharashtra farm loan waiver of INR 300 billion for small and marginal farmers will push up states' fiscal deficit to 2.71% (budgeted: 1.53%) in FY18 of gross state domestic product (GSDP) and in order to manage the elevated debt levels the state could reduce expenditure on capital formation, says India Ratings and Research (Ind-Ra). Ind-Ra believes the loan waiver is likely to reduce the fiscal space for the government to undertake higher capital expenditure over the medium-term, thus affecting its medium-term growth prospects.

Ind-Ra estimates that the debt/GSDP will rise to 17.44% against the budgeted 16.26% in FY18. Ind-Ra assesses the impact however will depend on whether the entire loan waiver is absorbed in FY18 or is staggered over a period of three to four years.

The Chief Minister of Maharashtra has promised a farm loan waiver of INR300 billion to small and marginal farmers of the state on 4 June 2017. Ind-Ra opines that the pressure on Maharashtra's fiscal position would be less intensive if the debt waiver is absorbed in the state finances in a staggered manner. Ind-Ra estimates the fiscal deficit to increase by 29.5bp to 1.82% of GSDP in FY18 if the loan waiver is phased equally (INR75 billion) over a four-year period. In this scenario, the fiscal deficit/GSDP is estimated to increase by 22bps-27bps over FY19-FY21. However, despite fiscal deficit expansion, it is likely to remain within the 14th Finance Commission's prescribed limit of 3% of GSDP.

Ind-Ra estimates debt/GSDP to increase to 17.44% in FY18 (with entire waived amount absorbed in FY18) as against the budgeted 16.26%. The state has budgeted debt stock at INR4,129.92 billion for FY18. With the loan waiver, this will rise to INR4,429.92 billion. Ind-Ra believes that the elevated debt levels will raise concern that the state could reduce expenditure on capital formation. The share of capital expenditure in total expenditure averaged 16.6% during FY10-FY17 (revised estimate). Deficits in the revenue account persisted during this period due to large interest payments. Interest payment (INR341.27 billion) to revenue expenditure ratio is budgeted at 13.75% for FY18. The state government has budgeted capex at 15.21% of total expenditure in FY18.

This is the second farm waiver announced by a state this year after Uttar Pradesh and farmers in states namely Madhya Pradesh, Punjab and Tamil Nadu are also demanding similar waivers.

Ind-Ra had highlighted in the report the negative implication that debt waivers have on credit culture. The debt waiver announced can significantly impact the credit culture among the agriculture communities in other states. More importantly demand for debt waiver may also come in from other states as well. The waivers may mask the delinquencies for the time being. Nevertheless, it carries the risk of significantly impairing asset quality going forward. The unintended outcome of this could be reduced availability of credit to the farmers from banks, forcing them to resort to the unorganised lending sector.

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