Power out! Narendra Modi government’s UDAY obligations start to bite into states’ finances

By: and |
New Delhi | Updated: April 9, 2018 3:29:50 AM

The state governments in aggregate were expected to revert to well below 3% fiscal deficit in FY18, but an analysis by FE of 19 state budgets presented recently suggests they may not have.

UDAY, UDAY scheme, economy, narendra modi, fiscal deficitThe state governments in aggregate were expected to revert to well below 3% fiscal deficit in FY18, but an analysis by FE of 19 state budgets presented recently suggests they may not have.

The state governments in aggregate were expected to revert to well below 3% fiscal deficit in FY18, but an analysis by FE of 19 state budgets presented recently suggests they may not have. Nine of these states have revised their fiscal deficits for the just-concluded financial year to be higher than projected a year ago, with the slippage ranging from a marginal 0.1 percentage point to an odd 13.25 percentage points (pps). Six states project their deficits to be higher than the FRBM threshold of 3% of GDP even in FY19, and many others might also incur deficits above 3% in the year that has just begun. While a potential stress on spending, especially revenue expenditure, in the run-up to the 2019 general elections is a downside, an additional risk factor is the rising power sector costs on account of obligations under the scheme for revival of electricity distribution companies. In FY16 and FY17, a fiscal headroom of up to 0.5 pps was available under the UDAY scheme for revamp of electricity distribution entities (UDAY bonds, according to the Economic Survey, had an impact of 0.5 and 0.6 pps of GDP on the deficits of 26 states in FY16 and FY17 respectively). While that leeway was not available for FY18, interest costs on UDAY bonds, coupled with the obligation to take over 5% of the discoms’ FY17 losses, had cost some states considerably. As UDAY’s technical parameters like AT&C loss reduction are not met by most states, the discoms continue to bleed.

The UDAY costs of Rajasthan was a substantial 0.74% of its gross state domestic product in FY18, which pushed its fiscal deficit (revised estimate) to 3.46% of GSDP against the original target of 2.99%. The impact of UDAY obligations on Haryana’s finances in FY18 was 0.36 pps and its fiscal deficit was 2.83%. Uttar Pradesh (0.32 pps) and Tamil Nadu (0.14 pps) too saw significant UDAY burden last year. The UDAY scheme allowed extra fiscal headroom to a maximum of 0.5% over and above the normal FRMB limit of 3% for FY16 and FY17. As the UDAY burden was set to largely get removed in FY18, the states targeted aggressive deficit cuts for the year, but most of them have failed to meet those targets. Worse, the slippage is despite 10 of the 19 states reducing their capital expenditure from the budgeted level. Among the states reviewed, the ones set to miss their deficit targets for the current fiscal by the widest margins are Assam (13.25% pps), Bihar (4.63 pps) and West Bengal (1.05 pps). Though Jammu & Kashmir also presented its FY19 budget recently, the hill state is not included in the analysis as it being conventionally an outlier for its special category status and limited own resources. J&K’s FY18 fiscal deficit is now estimated at 5.7% and the projection for FY19 is 6.1%. For now, interest costs, jacked up by UDAY bonds, is the principal power-sector liability for the states but unless the discoms manage to turn around, their losses would turn out to be increasingly onerous. Under the UDAY scheme, the states are expected to take over previous year’s discom losses in a graded manner from FY18:(5% of FY17 losses in FY18, 10% FY18 losses in FY19, 25% FY19 losses in FY20 and 50% of FY20 losses in FY21).

The overall interest expenditure of the 19 states rose 16% in FY18 and is projected to rise 8% in FY19, largely due to the taking over of the discom debts. Under UDAY, 16 state governments had taken over around Rs 2.32 lakh crore debt of their discoms in FY16-FY17 period; this amounted to about 75% of these entities’ debt and issued non-SLR bonds with maturity period of 10-15 years and a moratorium on repayment of principal up to 5 years. Rajasthan, which was the top issuer of Uday bonds (Rs 72,090 crore), is incurring annual interest spending of about Rs 6,000 crore on these bonds, the highest by any state. Uttar Pradesh (Rs 4,100 crore), Haryana (Rs 2150 crore) and Tamil Nadu (Rs 2,000 crore) also have large interest burden from UDAY bonds. UDAY costs will multiply with principal repayment to begin in FY22. Even though high interest cost on UDAY bonds will continue to have a major impact on state finances for several years, the declining discom losses could come come handy for many states. As per preliminary data, the losses of Rajasthan discoms have declined from Rs 5,208 crore in FY17 to around Rs 1,930 crore in FY18. Similarly, the annual losses of UP discoms are seen to have fallen from Rs 6,619 crore to Rs 4,845 crore during the period. Though discom losses have been contained by most of the 16 UDAY states except Haryana, the pace of reduction is hardly satisfactory.

UP discoms incurred a loss of Rs 6,619 crore in FY17 and Rs 4,845 crore in FY18 while Rajasthan power utilitties’ losses stood at Rs 5,208 crore and Rs 1,929 crore respectively in the two years. In case of Haryana, the losses came down from Rs 627crore in FY16 to Rs 387 crore in FY17, but rose again to Rs 897 crore till December FY18. Uday mandates discoms to bring down their aggregate technical and commercial (AT&C) losses to 15% and eliminate any gap between the discoms’ costs of power supply and revenue realised (ACS-ARR gap) by 2018-19. Only six states and one Union Territory had reported meeting their respective AT&C loss targets for FY17. AT&C losses in Bihar, Jharkhand and Uttar Pradesh are still very high at 36.8%, 36.3% and 30.9% respectively. Madhya Pradesh’s AT&C losses are currently at 31.6%, up form 25% in August, 2016, when it joined the UDAY scheme. Failure to attain 15% AT&C loss levels would mean additional woes for the discoms, as power ministry is set to mandate that AT&C losses exceeding 15% can’t be considered for tariff determination, in what could widen the ACS-ARR gaps, and potentially increase financial losses for discoms. Financially weak discoms have also contributed to the current stress in the power sector as private gencos are waiting for pending payment of more than Rs 8,000 crore from these state-owned entities. Outperforming the Centre, Indian states had achieved creditable fiscal consolidation for a few years till FY12 (when their combined deficit stood at 1.93% of the GDP), but have since turned less prudent; the combined deficit widened to 2.69% in FY15 and the UDAY scheme for power discoms extended the fiscal gap to 3.03% in FY16 and further, to 3.67% in FY17.

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