The relevance of understanding the fiscal position of India and its states is always complex as well as interestingly pertinent. Here we will have a closer look at the concept of Off-budget borrowing and its correlated effects on the public finance. The policy insight here mainly discusses about the key idea of extra budget borrowings which is not really discussed across the economic literature though there is a rising relevance in the Indian public finance.
We also discuss why government go for the off-budget borrowings from a fundamental axis by looking at some of the examples and case studies in Indian economy with a specific example of the state of Kerala. It also sheds some light on questions like why extra borrowing could be a problem and, if it becomes a threat, what is the generic way out?
What is Off-Budget Borrowings?
Off-Budget Borrowing or extra budget borrowing is a way for the government to finance its expenditures while keeping the debt off the books. It means that the government asks another public institution to borrow on its behalf, so that the collected loan is not counted in the fiscal deficit. This intends to help the government to keep its fiscal deficit within acceptable limits, but on the other side it also reduces the transparency and accountability of its finances.
Looking around the theoretical aspects shows us that it is important to understand and keep an eye on the borrowing limit mainly as it aids in the government’s adherence to the goals established by the budgetary Responsibility and Budget Management (FRBM) Act and helps the government maintain budgetary restraint and prudence. In general, it also increases the government’s budgetary sustainability and legitimacy while lowering the burden of debt on present and future generations.
Why do Government Resorts to Off-Budget Borrowing?
Governments may use off-budget borrowing to finance certain programs or projects that are regarded as significant but are not included in the normal budget. This can apply to social services, infrastructural development, or other top priorities. State governments can get financing without going over their financial boundaries by isolating these costs from the general budget. More specifically, to pay for its social programs and developmental initiatives that might not be covered by the borrowing cap established by the Center.
Off-budget borrowing enables governments to handle fiscal imbalances without directly influencing the balance of the official budget. In order to finance deficits in the budget while preserving the impression of prudent spending, governments may turn to borrowing outside of the budget. The public’s impression of the government’s financial status may be managed with the use of this strategy. Also, this strategy would be facilitating to deal with the slowed revenue growth brought on by the unintended disasters or consequences (pandemic, large floods etc.) and rising revenue expense.
Using off-budget borrowing allows governments to get around some legislative procedures and oversight. The legislature or other appropriate authorities frequently must approve regular budgeting processes, which might take time and be the subject of political discussions. Off-budget borrowing can provide governments additional flexibility and enable funding for pressing projects or initiatives without using the regular legislative processes.
It is also considered as a Debt and liability concealment where off-budget borrowing may occasionally be used to conceal or minimize the real magnitude of a government’s debt and liability. Governments may enhance public perceptions of their aggregate level of debt and financial soundness by excluding some financial commitments from the official budget. It is important to remember that, if not handled properly, such actions may be dangerous and can result in financial instabilities.
It is critical to stress that off-budget borrowing methods can cause issues with accountability, transparency, and the truthful representation of a government’s financial status. Off-budget borrowing may have legitimate justifications, but governments must maintain openness and make sure that their accounting records correctly reflect the overall state of their finances.
Some of the cases/examples of the off-budget borrowing in India are;
- Deferring fertilizer arrears/bills through special banking arrangements.
- Food subsidy bills/arrears of Food Corporation of India (FCI) through borrowings.
- Implementation of irrigation scheme (Accelerated Irrigation Benefits Programme or AIBP) through borrowings by National Bank for Agriculture and Rural Development (NABARD) under the Long-Term Irrigation Fund (LTIF).
- Loans taken by public sector undertakings (PSUs) or special purpose vehicles (SPVs) on behalf of the government for various projects.
How problematic it can be?
As the off-budget borrowing eliminates the crowding-out effect and the rise in bond rates, which might raise the cost of borrowing for the private sector and stifle economic expansion. It violates the spirit of the Fiscal Responsibility and Budget Management (FRBM) Act and the principle of fiscal prudence and inter-generational equity.
It also increases the government’s financial accountability and transparency while enabling the Parliament and the general public to examine the government’s borrowing and spending policies. In addition, it may stimulate the aggregate demand and public sector investment in the short run, but at the cost of long-term fiscal sustainability and altogether, it is said to surge the debt burden of the government and future generations.
Where does Indian States stand?
A recent report by Financial Express which accounted those five southern states namely, Telangana, Andhra Pradesh, Kerala, Tamil Nadu, and Karnataka together accounted for ₹2.34 lakh crore, around 93%, of the total off-budget liabilities of eleven major states analysed. Other states that have resorted to off-budget borrowing include Uttar Pradesh, West Bengal, Maharashtra, Rajasthan and Madhya Pradesh. Let us investigate the major debate on the topic through the case study of the state of Kerala.
As a financial entity, the Kerala Infrastructure Investment Fund Board (KIIFB) was established by Finance department, Government of Kerala as a parent organisation in order to raise funds for infrastructure development beyond the state’s budget. The mandate of KIIFB is to provide funding support to priority major projects (infrastructural) to support the core sectors of the economy. Fiscal borrowing using a quasi-government entity like KIIFB is paramount in Kerala.
According to the Comptroller and Auditor General (CAG) of India, KIIFB is an example of off-budget borrowing, as it borrows money from the market on behalf of the state government but does not reflect it in the state budget or accounts. The CAG has criticized KIIFB for ignoring the legal and constitutional restrictions on government borrowing, breaking the rules of fiscal responsibility and budget management, and adding to the state’s and future generations’ debt load. However, KIIFB has defended itself by asserting that it is a financial institution with a reliable revenue stream that operates on an annuity model rather than an off-budget borrowing mechanism.
Additionally, it has stated that it borrows with the consent of the state legislature and the federal government and that it upholds the highest standards of accountability and openness.
Conclusion: Policy Imperatives
Though, the current dynamics of Indian fiscal side does not show much pessimism in regards of off budget borrowing, it is significant to know the way out if the issue pops up in the future. Some of the probable and general ways to discourage the mechanism are;
- Broadening the tax base and revenue sources of the government.
- Enhancing the transparency and accountability of the government’s finances by disclosing the off-budget borrowings and their implications.
- Working with the spirit of cooperative federalism and resolving the centre-state financial issues through forums like GST Council and Inter-State Council.
- Rationalizing the expenditure and avoiding wasteful subsidies and freebies.
- Adhering to the fiscal responsibility and budget management targets and norms.
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Liu, L., & Webb, S. B. (2011). Laws for fiscal responsibility for subnational discipline: International experience. World Bank Policy Research Working Paper, (5587).
Ryder, K. (1990). A Guide to FIRREA’s Off-Budget Financing. Stan. L. & Pol’y Rev., 2, 82.
Schick, A. (2008). Off-budget expenditure: an economic and political framework. OECD Journal on Budgeting, 7(3), 1-32.
Centre eases norms for adjusting states’ off-budget borrowings. https://economictimes.indiatimes.com/news/economy/policy/centre-eases-norms-for-adjusting-states-off-budget-borrowings/articleshow/92847216.cms.
CAG raps Govt. for off-budget borrowings – The Hindu
How borrowings outside the budget hide the real deficit numbers – The Print. https://theprint.in/economy/how-borrowings-outside-the-budget-hide-the-real-deficit-numbers/188239/.
States’ off-budget borrowing to dip 72% in FY23. https://www.financialexpress.com/economy/states-off-budget-borrowing-to-dip-72-in-fy23/2974540/.
What is off-budget financing, how does it help govt manage Budget? https://www.businesstoday.in/news/story/what-is-off-budget-financing-how-does-it-help-govt-manage-budget-286217-2021-02-01.
Nandu S Nair, Research Intern at IMPRI.