An autonomous research institute under the Ministry of Finance


A Study of Debt Sustainability at State Level in India

Publication date

Jan, 2004


Report submitted to the Reserve Bank of India


Indira Rajaraman, Shashank Bhide, P. K. Pattnaik


Studies on debt sustainability in India have addressed the issue at the level of the central government alone, or aggregated across centre and states, or at the aggregate level for states. Since the constituent states of the Indian union are highly heterogeneous in terms of size, level of income, and ability to raise own resources, there is a need for a state-specific assessment of debt sustainability status. After operationalising the analytics of debt sustainability for subnational governments, states are grouped and ranked by the indicators selected. The significant increase in the outstanding indebtedness and sharp increase in the average interest rate require states to carry overall primary surpluses in order to stabilise debt as a percent of GSDP. The problem is reaching crisis proportions, with states facing increasing market reluctance to absorb their securities. Fiscal correction at state level is no longer an option, but has become an imperative. The study identifies states in need of expenditure compression and improvement in own revenue collection effort, and lists other institutional changes required, such as introduction of fiscal responsibility legislation, and participation in the Compensatory Revenue Fund and the Guarantee Redemption Fund, in order to gain fiscal credibility in financial markets. Legislated fiscal conduct has to explicitly prohibit budgetary malpractices, such as loss cover for non-departmental state PSUs through incremental contributions to share capital from the capital account of the budget. It can be nobody’s case that states are entirely responsible for the fiscal situation in which they find themselves. In a fiscal federation, the ultimate responsibility for macroeconomic control rests with government at the national level. The provision for this is presently enshrined under Article 293(3) of the constitution. The coverage of this is however partial, and does not extend to borrowing against small savings collections, or direct borrowing from the public through small savings schemes floated by the state government. It is only when the coverage of Article 293(3) comprehensively extends to all avenues of possible borrowing that enabling conditions for unsustainable debt paths will have been eliminated. These recommendations have been adopted in the Report of the Twelfth Finance Commission.

blog comments powered by Disqus