States to sustain capex focus with improved fiscal space: Ind-Ra report

India Ratings and Research (Ind-Ra) has put out a report maintaining a neutral outlook on the finances of Indian states for the fiscal year 2024-2025 (FY25), showing States' aggregate revenue deficit is projected to be 0.4 per cent of gross domestic product (GDP) for FY25, down from 0.5 per cent in FY24. Additionally, the agency expects the aggregate fiscal deficit of all states for FY25 to decrease to 3.1 per cent of GDP, compared to the revised figure of 3.2 per cent in FY24.

The report underscores the containment of revenue deficits, which provides greater fiscal flexibility to states, enabling them to sustain focus on capital expenditure (capex) projects. Anuradha Basumatari, director of Public Finance at Ind-Ra, emphasised the favorable conditions for capital expenditure, stating, "Containment of the revenue deficit provides greater fiscal flexibility to states, which is favourable to capital expenditure and is expected to continue in FY25."

The revision in the fiscal deficit forecast for FY24 was attributed to lower-than-expected revenue receipts, primarily due to a decline in grants from the central government. Despite this decline, buoyant growth in tax revenue in FY24 partly offset the shortfall. The agency's assessment of tax buoyancy suggests that aggregate revenue receipts likely grew by 9.5 per cent year-on-year (yoy) in FY24, supported by states' own tax revenue. Looking ahead to FY25, the report anticipates continued growth in aggregate revenue receipts, projected to increase by 9.5 per cent yoy.
However, this growth is expected to be tempered by lesser-than-budgeted grants from the central government, which could impede higher revenue growth prospects.

The report analyzed the budgets of 26 states (excluding Arunachal Pradesh and Sikkim), revealing a budgeted decline of 7.4 per cent in grants from the center for FY25 compared to the revised estimate for FY24. Consequently, Ind-Ra expects revenue expenditure to grow by 8.7 per cent yoy in FY25, commensurate with the projected growth in revenue receipts. In terms of capital expenditure, the report notes that the aggregate capex was lower than budgeted in FY23 but is expected to have improved in FY24.

It is anticipated that the share of aggregate capex will be maintained at 2.8 per cent of GDP in FY25. The pickup in capex during FY24 was attributed to the utilization of funds under the "Special Assistance to States for Capital Investment" scheme initiated by the central government. The report also highlights the financing structure of states' fiscal deficits, noting that nearly 80 per cent of the deficits, on average, were financed through market borrowings during FY19-FY23. However, during FY22 and FY23, the share of net market borrowings decreased as states availed interest-free loans under the center's capital investment scheme.

For FY25, Ind-Ra projects net market borrowings of Rs 7.6 trillion, expected to finance 75 per cent of states' aggregate fiscal deficit. Despite this, the agency expects the debt burden to remain stable, with the aggregate debt/GDP ratio projected to be 28.6 per cent in FY25, slightly lower than the 28.7 per cent recorded in FY24.