Think long-term with FRBM funds

The borrowed funds need to be used for productive purposes so as to contribute to higher growth

By   |  Published: 8th Jan 2017  2:00 amUpdated: 7th Jan 2017  9:33 pm

The Centre recently raised the Fiscal Responsibility and Budget Management (FRBM) limit from 3 per cent to 3.5 per cent for Telangana. This increase implies inflow of additional resources and more funds at the disposal of the State government. These funds are expected to cushion the impact of demonetisation and help the State fund various welfare schemes.

More Money
Telangana’s gross state domestic product (GSDP), according to the Budget documents for 2015-16, is Rs 583,117 crore. Under the earlier limit of 3 per cent, the government could have borrowed up to Rs 17,494 crore. But now, it can get an additional Rs 2,915 crore, taking the total of public borrowing to Rs 20,409 crore.

The State was seeking a hike in the FRBM limit arguing that it had met the conditions of the 14th Finance Commission for the breather.

The Union Cabinet last April approved the 14th Finance Commission’s recommendation on fiscal deficit targets and additional fiscal deficit for the States.

Under this, States should aim at a fiscal deficit of 3% of the GSDP during the period 2015 to 2020. They are eligible for 0.25% over this limit if their debt-GSDP ratio is less than or equal to 25% in the previous year.

An additional borrowing of 0.25% of their GSDP can be enjoyed if their interest payments are less than or equal to 10% of the revenue receipts in the previous year and if they do not have revenue deficit for the year in which borrowing limits are to be fixed and the immediate preceding year.

Only five States – Telangana, Gujarat, Karnataka, Madhya Pradesh and Odisha — are eligible for the additional borrowing limit.

Pressing Needs
In undivided Andhra Pradesh, most development was concentrated in Hyderabad. This meant that after the formation of Telangana, the State had to urgently plan for balanced development. Water – both for drinking and irrigation needs — has been a major problem for drought-prone Telangana.

Post bifurcation, the government of Telangana has taken up various developmental projects. It is estimated that its double-bedroom housing scheme and ‘Mission Bhagiratha’ will need over Rs 50,000 crore. Projects such as water grid and Mission Kakatiya, which aims at reviving tanks to provide water for irrigation and drinking, too need funding. Around Rs 8,000 crore is needed for implementing the loan waiver scheme — crop loan and the recently announced housing loan. Budget estimates put the total debt burden of the State at around Rs 1.3 lakh crore.

“These projects require large-scale investments in infrastructure and affirmative actions that the government is actually performing,” says Kaustuva Barik, Professor of Economics, Ignou.


However, on the flip side, it means an increase in public debt and higher liability on people, leading to higher interest payment. “An implication of the borrowing is some sort of intertemporal shift in consumption; the present generation consuming beyond its means, to be repaid by the future generation,” says Barik.

So, Telangana needs to exercise caution while going in for more borrowings. The purpose of borrowing is very important so as to ensure that it does not add to the State’s mounting debt burden.

If the borrowed funds are used merely for consumption, it reduces future consumption as the debt has to be repaid along with interest. On the other hand, if they are used for productive investment purposes, it has the potential of increasing future income and thereby future consumption.

Public debt beyond a level is unsustainable. It has a tendency to affect growth adversely, as a large part of revenue is spent on interest payment. A high debt-GSDP ratio may lead to a debt-trap, a situation where the State government needs to borrow to repay earlier debt, and the State needs to be cautious enough to avoid it. The State needs to think long-term and ensure that these funds are invested for productive purposes and judiciously as well.

Funding Options
Apart from public borrowing under the FRBM limit, the State government can provide guarantee for borrowings by public sector undertakings (PSU) as per Article 292 of the Constitution. Such loans are repaid either by the PSU or by the government (it does not matter who makes the repayment, as the PSU is owned by the government).

In addition, the State government has provision for certain short-term borrowing facilities such as ‘Ways and Means Advances’ (WMA) to be repaid within three months, Special Drawing Facility (SDF) based on its investment in Central government securities, and overdraft facility. (These are usually counted as advances, not debt)
— Kaustuva Barik, Professor of Economics – Ignou

Illustration by Chaitanya Krishna