States' gross fiscal deficit below Budget Estimate for a 2nd yr: RBI report

States have sustained improvement in their finances — which was achieved in the financial year 2021-22 — even during 2022-23 with a combined gross fiscal deficit (GFD) at 2.8 per cent of the gross domestic product (GDP). This is below the Budget Estimates for the second consecutive year, Reserve Bank of India’s (RBI’s) report on state finances said.

The report titled, ‘State Finances: A Study of Budgets of 2023-24,’ said the reduction in deficit was achieved primarily through a reduction in the revenue deficit while sustaining robust capital outlays.

“The implementation of goods and services tax (GST) has led to increased tax buoyancy for the states,” the report said.

States’ total outstanding liabilities are budgeted to fall to 27.6 per cent of GDP for 2023-24 from the peak of 31 per cent in 2020-21. However, outstanding liabilities may remain higher than 30 per cent of gross state domestic product (GSDP) for many states, the report said.

During the first half of the current financial year, states witnessed a year-on-year (Y-o-Y) increase in consolidated GFDs. It is attributed to lower growth in revenue receipts and robust capital expenditure, despite a moderation in revenue expenditure growth.

The growth in tax revenue and non-tax revenue decelerated, and grants from the Centre contracted significantly due to the cessation of GST compensation cess. State goods and services tax (SGST) saw robust growth, benefitting from improved GST compliance and economic activity.

In terms of expenditure dynamics, revenue expenditure growth slowed to 8.9 per cent, creating room for higher capital outlay, which surged by 52.6 per cent during the first half of the current financial year. It was supported by the Centre’s scheme and special assistance to states for capital investment.

The fiscal outlook for states remains favourable, with expectations of improved tax revenue in the second half. In the financial year 2023-24, states have budgeted a GFD to GDP ratio of 3.1 per cent. It is below the prescribed limit of 3.5 per cent set by the Centre.

However, a closer look at the disaggregated data reveals that 19 states and Union Territories have set a GFD to GSDP ratio exceeding the fiscal responsibility legislation (FRL) limit of 3 per cent.

States’ dependence on net market borrowings, which had risen significantly in the past, declined to 76 per cent in the budgeted GFD for 2023-24. Gross market borrowings increased in 2022-23, reaching Rs 7.58 trillion, with some states reducing borrowings in the past two years, the report said. Net market borrowings increased by 5.4 per cent in 2022-23, and were concentrated in specific states. In the year 2023-24, states have budgeted revenue expenditure at 14.4 per cent of GDP, with social sector expenditure at 8 per cent of GDP.

Committed expenditure, which includes interest payments, administrative services, and pension, is expected to remain at 4.5 per cent of GDP.

Capital outlay, after a subdued outturn in the preceding financial year, is projected to witness a sharp increase by 42.6 per cent.

It is driven by an enhanced loan allocation under the scheme for special assistance to states for capital investment.

The expenditure quality of states is expected to improve, with the ratio of revenue expenditure to capital outlay (Reco) projected to fall to 5 in 2023-24 from 6 in the provisional accounts of 2022-23.

Additionally, both the Centre and states are actively modernising banking arrangements, cash management practices, and funds transfer mechanisms through the adoption of a single nodal agency (SNA) system. It is aimed at strengthening the public funds disbursal system in India.

The report further said that the issuance of state government securities (SGSs) reflected debt consolidation efforts, with a higher proportion having a residual maturity of five years and above. SGS yields showed an upward bias during 2022-23, influenced by the RBI’s policy repo rate hike and rising US bond yields.

The debt-GDP ratio of states declined from 31 per cent at end-March 2021, to 27.5 per cent by end-March 2023, supported by fiscal consolidation. The debt-service ratio, which is measured by interest payment to revenue receipts, witnessed moderation. The composition of outstanding liabilities indicated an increasing share of market loans and loans from the Centre. The shares of special securities, loans from banks and financial institutions and public accounts decreased.

Contingent liabilities of states, represented by government guarantees, had gradually risen to 3.8 per cent of GDP by end-March 2021. It decreased by around 16 per cent during 2022-23, potentially easing concerns related to debt sustainability.

During the financial year 2021-22, there was a substantial increase in states' revenue receipts attributed to the easing of lockdown measures and the subsequent rebound in economic activity. This surge in revenue collections was primarily driven by an increase in tax revenue, including own taxes and tax devolution, as well as non-tax revenue, effectively compensating for reduced grants from the Centre.

Provisional accounts for the financial year 2022-23 indicate a dip in states' revenue receipts as a percentage of GDP, primarily due to lower tax revenues and reduced grants from the Centre.

However, states are projecting a notable upswing in revenue receipts for 2023-24, anticipating a comprehensive recovery across all major components.

For the upcoming financial year, states have budgeted for a substantial increase in revenue receipts, foreseeing a broad-based recovery.

This projection includes an expectation of sales tax and state excise duty collection growth, although the rise in SGST may moderate from a high base. Non-tax revenue is also expected to rise, driven by higher collections from mining lease renewals, auction of mines, power sector reforms, and increased interest earnings and general services.