The pandemic-induced lockdown and consequent slump in economic activity will increase states’ indebtedness¹ to atleast 36% this fiscal – the highest in a decade.

This is mainly attributable to falling goods and services tax (GST) collections and sticky revenue expenditure of states.

Crisil’s study of the top 18 states², which account for 90% of the aggregate gross state domestic product (GSDP), indicates as much.

States’ overall revenues are estimated to decline almost 15% on-year this fiscal in line with a shrinking economy. All the revenue sources of the states will take a hit, with almost 65% of the decline attributable to a fall in State GST collections, GST compensation payments, and tax devolutions to the states from the centre’s own tax pool, which together form nearly 50% of states’ revenue receipts.

Says Manish Gupta, Senior Director, Crisil Ratings, “Amid falling revenue receipts, states’ revenue expenditures would remain largely sticky due to high committed expenditures (related to salaries, pension and interest costs) and essential developmental expenditures (such as grants in aid, medical and labour welfare related expenses). These cumulatively contribute to about 75-80% of the total revenue expenditure and will be difficult to cut down.”

Given the stretch in revenue account, states may moderate their capital expenditures (capex) by around 30%, largely to remain within fiscal borrowing limits. Despite the moderation in capex, states’ gross fiscal deficit is likely to expand by around 65% on-year this fiscal and will increase states’ borrowing needs substantially.

Says Ankit Hakhu, Director, Crisil Ratings, “Overall debt of states, including guarantees and loans provided by Centre to partly compensate for states’ GST shortfall, will increase sharply by ~Rs 10 lakh crore this year to ~Rs 68 trillion by the end of this fiscal. This will expand states’ indebtedness to atleast 36% — an expansion of 600 bps on-year.”

The math assumes a likely shrinkage of 2-4% in states' nominal GDP this fiscal. This will remain sensitive to containment of pandemic and states’ policies towards unlocking the economy.

We expect a substantial recovery in revenue collections to pre-pandemic levels next fiscal, supported by economic revival. Any delay in this will result in continuing elevated indebtedness and will be credit negative.

Annexure
Key assumptions

• Analysis factors in provisional financials (Source: CAG) for fiscal 2020 and actual financials for earlier fiscals; for some states, revised estimates were considered for fiscal 2020 as provisional financials were not available
  
• Actual decline in key revenue sources in H1:2020-21 is based on data available at CAG. With economic activities picking up, substantial recovery is assumed in H2 FY2021
  
• Revenue expenditures to increase in fiscal 2021 due to high committed expenditures and elevated pandemic related expenses.

¹ Ratio of overall debt to GSDP
² States analysed: Maharashtra, Gujarat, Karnataka, Tamil Nadu, Uttar Pradesh, Andhra Pradesh, Telangana, Rajasthan, West Bengal, Madhya Pradesh, Kerala, Haryana, Bihar, Punjab, Odisha, Chhattisgarh, Jharkhand and Goa.