Budget 2019: Traders have a challenge spotting govt's hidden, growing debt

Bond traders have one question as they head into India’s budget on Friday -- how big are the off-balance sheet borrowings?

There’s growing expectations that the government will do an accounting sleight of hand to keep its deficit in check: borrow via state-owned firms and issue special bonds. That’s a concern since total public sector borrowings have reached as much as 9% of gross domestic product by one estimate.

“Extra-budgetary resources are exerting pressure on corporate bond yields because the government is channelizing a lot of borrowings through state-run entities,” said Shailendra Jhingan, chief executive at ICICI Securities Primary Dealership Ltd. in Mumbai.

Prime Minister Narendra Modi may have few options left as a slowing economy crimps tax revenue, while investors are already smarting from his plans to borrow a record Rs 7.1 trillion ($103 billion) this fiscal year.

State-linked companies, including the Steel Authority of India Ltd., will probably raise Rs 1.8 trillion selling bonds and debentures for the 12 months ending March 2020, documents from February’s interim budget show.

Some state firms also issue a class of bonds serviced by the government where the coupon is accounted for in the budget only in the year when payments are made. When the debt is redeemed, it shows up as an expenditure in the budget.

Thanks to extra-budgetary borrowings, the spread between sovereign bonds and top-rated state company debt will remain wide at 80 to 90 basis points, said Gopikrishna Shenoy, who oversees $20 billion as chief investment officer at SBI Life Insurance Co.

Funding Subsidies

This is not the first time that an administration shifted debt from one hand to another to mask the actual deficit. Ruling parties have in the past regularly issued bonds for bank capitalization, and oil and fertilizer subsidies, which were listed as below-the-line items in federal accounts.

While Modi has an official fiscal deficit target of 3.4%, it’s probably in the 4% to 4.25% range once the off-balance sheet items are added, according to Anubhuti Sahay, head of South Asia economic research at Standard Chartered Plc.

The risk is that the additional borrowings dampen the impact of rate cuts by the Reserve Bank of India, she said.

The central bank sounded a warning last month. Deputy Governor Viral Acharya said public sector borrowings, which accounts for extra-budget resources and off-balance sheet debt, have reached as much as 9% of GDP, citing research by JPMorgan Chase & Co.

That’s a level last seen in 2013, the year of the taper tantrum, he said.

That explains why analysts are focused on what the budget may conceal.

While the fiscal deficit and official borrowings are expected to be similar to the February estimates, “it’s the periphery -- off balance sheet spending and borrowings by public sector enterprises -- that is likely to become the center of cynosure,” Shubhada Rao, chief economist at Yes Bank Ltd., wrote in a report Tuesday.