Each of the Indian states is unique in terms of the factors that support its economy and the challenges it faces in meeting its developmental goals. Fiscal outcomes tend to vary across the states, both in terms of the size of their deficits as well as their stock of debt. This is in spite of the common rules regarding borrowings, which are elaborated in the Constitution of India.
Going ahead, the recommendations of the 16th Finance Commission will guide the size of the fiscal deficit at the state level from 2026-2027 to 2030-31. We are working with the assumption that the state fiscal deficit will remain pegged at 3 per cent of GDP over the medium term. This will then provide an anchor for the net borrowing ceiling (NBC) that is calculated by the Government of India (GoI) and communicated to each state at the beginning of every financial year. The amount to be redeemed in a fiscal is added to the individual NBC to arrive at the gross borrowings that states are permitted to undertake each year.
Loans from the Centre used to be the chief source of state government debt until the 12th Finance Commission recommended that the Centre disintermediate from state borrowings. Since 2006-07, market borrowings have emerged as the main source of funding the gap between the state governments revenues and expenditures. More recently, states’ market borrowings surged to Rs 10.1 trillion in 2023-24 from Rs 4.8 trillion in 2018-19. At end-March 2024, the stock of state government securities (SGS) outstanding is estimated to have risen to Rs 56.5 trillion. To provide some context, this was equivalent to around 55 per cent of the estimated outstanding stock of Government of India securities (G-secs) on that date. However, in terms of growth, the stock of SGS expanded at a faster pace than that recorded by the G-secs.
Based on the current stock of debt, we estimate that the amount of SGS to be redeemed would jump to as much as Rs 20.7 trillion during 2025-26 and 2029-30 and Rs 18 trillion in the four years thereafter, led by Uttar Pradesh, Tamil Nadu, Maharashtra, Karnataka, and Gujarat. This will ensure that the gross market issuance by the state governments will remain elevated during the next 10 years.
The amount borrowed by the states in each year and the tenor of the securities issued determines the redemption profile of the stock of market borrowings. Up to 2011-12, most states borrowed only in the 10-year bucket. However, we have seen a lot of variation in recent years, with some states preferring shorter tenor debt, that is, below 10 years and a minority borrowing between 15 and 40 years as well.
One of the key risks faced by the issuers of debt is the roll-over risk or the risk of refinancing their debt. This risk gets accentuated when the amount to be refinanced is relatively large. The weighted average maturity of the stock of debt outstanding is a useful way of gauging the extent of roll-over risk. A longer average maturity of the stock would imply that a relatively smaller portion of debt would be required to be rolled over in the near-term. The weighted average maturity of the stock of SGS outstanding at end-March 2024 was 8.5 years, up from 6.7 years at end-March 2019. This benefitted from the increase in the proportion of issuance of more than 10-year papers by states.
In 2023-24, Andhra Pradesh, Karnataka, Kerala, Madhya Pradesh, Punjab, Telangana and West Bengal borrowed 75-100 per cent of their total issuance in the longer-tenor segment. The increasing preference for longer dated papers reflects the relatively attractive interest rates for this segment compared to the short-term rates and highly front-ended redemption profile for most of the states. At the same time, Gujarat and Chhattisgarh were outliers as over 85 per cent of their borrowing was in the shorter tenor securities in that year.
Coming back to the loans from the Centre. As market borrowings took over and the existing loans were repaid to the Centre, their stock outstanding started sliding fairly rapidly. However, two new forms of such loans emerged amidst the Covid-19 pandemic. One is the back-to-back GST compensation loans, which were raised by the GoI and on-lent to the states, and are to be repaid through the GST compensation cess collections. Another category is the 50-year interest-free loans from the Centre, which were also introduced after the pandemic started, and have continued thereafter.
Out of the Rs 2.7 trillion GST compensation loans raised during 2020-21 and 2021-22, the GoI had repaid Rs 781 billion using the GST compensation cess collections. Out of the balance, Rs 551 billion is due for maturity in June and November 2025 and Rs 1.4 trillion in April 2026.
Meanwhile, the size of the interest-free capex loan scheme has jumped manifold from Rs 118 billion in 2020-21 to Rs 1.3 trillion in the budget estimates for this year. How much the GoI chooses to allocate under this scheme in the coming years will help determine the resource availability of state governments for capital spending. It may also have some impact on the amount they borrow from the market.
The writer is Chief Economist and Head, Research and Outreach, ICRA
Since 2006-07, market borrowings have emerged as the main source of funding the gap between the state governments revenues and expenditures. 
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