Introduction

India’s sub-national debt position was significantly improved during the initial phase of fiscal consolidation (i.e., 2003-04 to 2010-11), when state governments stipulated fiscal responsibility legislation and initiated various fiscal austerity measures as per the recommendations of successive Finance Commissions and other government channels. But most states failed to maintain the target after the fiscal consolidation period as the debt-deficit indicators often crossed the prescribed limits. While revenue mobilization has become a key concern in sub-national governments' debt accumulation process, a set of tax and non-tax reforms gained momentum in the recent past. Of these, the introduction of the Goods and Service Tax (GST) has played a lead role.[1]  

Under the GST regime, state governments’ revenue is expected to increase and be inversely proportional to the debt to GSDP (Gross State Domestic Product) ratio, ensuring debt sustainability. If GST revenue is sufficient to service the state's outstanding liabilities, the other receipts (including debt receipts) can be utilized for primary expenditure commitments. However, if it is not adequate, the state needs to borrow further to service its existing debt (i.e., Ponzi Scheme). This also implies that adequate revenue generation from its primary sources like state GST helps the state governments avoid Ponzi conditions and ensure smooth functioning of the fiscal chain (Renjith and Shanmugm, 2018). 

Notably, the aggregate debt of all the states combined rose from Rs. 42924.95 billion in 2017-18 to Rs. 53430.22 billion in 2019-20. At the aggregate level, the debt to GSDP ratio reached about 27 percent in 2019-20, while the ratio varied from 17.84 % (Maharashtra) to 41.32 % (Punjab) at the disaggregate level during the period (RBI 2021). The primary balance[2] of most state governments stayed negative (primary deficit) during the period. Adding fuel to the fire, the growth of GST revenue across states has been lower than expected due to its design, compliance, and administrational issues. Such a shortfall has the potential, directly or indirectly, to create revenue shocks that may lead to fiscal shocks to state finances by narrowing fiscal spaces and mounting debt burden. This has raised two critical questions in the literature: (ii) Do states hold a sustainable debt position under the GST regime? and (iii)Does GST remain a dismal factor in debt sustainability?

The present study used secondary data pertaining to 22 major states in India from 2017-18 to 2019-20 to analyze the sustainable debt position of Indian states under the GST regime. Using indicator approach, the study examines whether GST regime undermines States’ sustainable debt position.  The variables used in this study are mainly drawn from two published sources: (i) Reserve Bank of India (RBI) for major fiscal variables and (ii) GST Network for state-wise GST collection and IGST settlement for the period.

Do states hold a sustainable debt position during GST regime?

Conceptually, the public debt is ‘sustainable’ as long as the debt levels do not accumulate at a rate considerably exceeding the government’s capacity to service it in the absence of policy adjustment, negotiation or defaulting (IMF 2011). Unsustainable debt levels can lead to major disruptions in economic activity and reorientation of priorities in an economy. As indicated, under the GST regime, state governments’ revenue is expected to grow and be inversely proportional to the debt, ensuring debt sustainability. If the growth rate of GST revenue is inadequate, it will disrupt the fiscal chain indicating signs of fiscal risk. Such a situation entails higher borrowings, adding to the debt burden and questioning debt sustainability. To avoid such a situation, growth rate of GST revenue should be higher than the growth rate of Debt.  In other words, the momentum in growth rate of state GST revenue must improve fiscal conditions and thereby improve states’ fiscal space.

Further, state governments should have the ability to service its interest payments and repay its debt as and when they become due through current and regular sources of revenue. In other words, they should be solvent enough to avoid a ponzi condition. As a major component of states’ revenue, GST collection largely explains states’ solvency condition. If the growth rate of GST revenue is faster than the growth rate of interest payments, the debt servicing would be smoothened ensuring sustainability in future. [3]

Most importantly, according to Fiscal Policy Response Function, the primary balance-GSDP ratio is positive and, at least, a linearly rising function of the debt-GSDP ratio. If so, the initial stock of debt equals the sum of the present discounted values of the primary surpluses. Thus, the Intertemporal Budget Constraint (IBC) [4]

  is satisfied (Bohn, 1998), warranting debt sustainability.[5] Therefore, the primary balance should grow positively. Once again, GST is a crucial factor in this process. If the change in primary balance is positive over time, it grows towards primary surplus in the future. If it is negative, it will direct the state towards a huge primary deficit questioning sustainability in the long run.

Therefore, in order to ensure a sustainable debt position three conditions should be satisfied: (1) the rate of growth of debt (d  ) should be lower than the rate of growth of state GST (τ  ), (2) the Interest burden defined by interest payments (i  ) should grow lower than rate of growth of GST (τ  ) and (3) Primary balance (p ) should improve over time. In other words, a higher growth in state GST collection, a lower growth in debt servicing and a positive primary balance over time are the sufficient conditions for sustainable debt position. If a state satisfies all three conditions, then it's debt is strongly sustainable. If it satisfies at least one condition, then it’s debt is weakly sustainable. The weakly sustainable condition will shift towards an unsustainable debt position if the primary balance grows negatively (i.e., towards primary deficit). In fact, primary balance is the root cause of all types of deficits and reflects in the total debt requirements. As long as a country generates the debt stabilizing primary balance[6] to cover its debt in future, then the country’s current debt level is sustainable. Hence, positive growth in the primary balance over time is necessary for sustainability.

Strongly sustainable:(i) ∆τ -∆d>0 ;  ∆τ -∆i>0; ∆p=+ve

Weakly Sustainable: (i)  ∆τ -∆d<0; ∆τ -∆i>0; ∆p=+ve

                                       (ii) ∆τ -∆d>0 ;∆τ -∆i<0 ; ∆p=+ve

                                       (iii)∆τ -∆d<0 ; ∆τ -∆i<0 ; ∆p=+ve

                                      (iv) ∆τ -∆d<0 ; ∆τ -∆i>0 ; ∆p=-ve

                                       (v) ∆τ -∆d>0 ; ∆τ -∆i<0 ;  ∆p=-ve

                                       (vi) ∆τ -∆d>0 ; ∆τ -∆i>0 ; ∆p=-ve

Not Sustainable:       (i) ∆τ -∆d<0 ; ∆τ -∆i<0 ; ∆p=-ve

 

 

The study compares various indicators during the GST period for each state, as illustrated in Table 1. The debt policy is strongly sustainable in the case of Assam, Bihar, Himachal Pradesh, Jharkhand and Uttarakhand (Group A) as it satisfies all three sustainability conditions. They are solvent enough to avoid the Ponzi condition.  On the other hand, in the case of Andhra Pradesh, Karnataka, Kerala, Madhya Pradesh, Maharashtra, Tripura, Uttar Pradesh, and West Bengal, at least one condition is met. Therefore, these states are only weakly sustainable. Since Kerala, Maharashtra and Uttar Pradesh satisfy the necessary condition (i.e., positive growth in primary balance) of sustainability, their long-run implications are not very alarming (Group B). Notably, Kerala is the only state where primary balance has improved over time despite undesirable other conditions. The growing tendency of primary balance will minimize the debt burden, and eventually IBC will get satisfied. This also implies that debt per se is not bad for a state if its primary balance improves over time.

In contrast, the states with negative growth in primary balance (i.e., Andhra Pradesh, Karnataka, Madhya Pradesh, Odisha, Punjab, Rajasthan, Tripura, and West Bengal) may end up with an unsustainable situation in the long run (Group C).  Hence the fiscal path of these 8 states is a matter of concern.  Notably, states like Chhattisgarh, Goa, Gujarat, Haryana, Tamil Nadu, Telangana do not meet any sustainability conditions (Group D). Therefore, the debt policy is not sustainable in these 6 states. The major concern is these 13 states (Group C and Group D), which failed to satisfy the necessary debt sustainability condition. Their SGST collection is inadequate and deserves policy attention. 

Table 1: Sustainability Analysis-Indicators Approach

State	∆τ -∆d>0	∆τ -∆i>0	∆p  (+/-)	Sustainability?
Group (A)
Assam	4.46	4.54	+	Strongly Sustainable
Bihar	20.22	18.85	+	Strongly Sustainable
Himachal Pradesh	10.32	12.14	+	Strongly Sustainable
Jharkhand	8.35	12.29	+	Strongly Sustainable
Uttarakhand	3.87	9.14	+	Strongly Sustainable
Group (B)
Kerala	-5.50	-7.02	+	Weakly Sustainable
Maharashtra	-0.94	6.26	+	Weakly Sustainable
Uttar Pradesh	-0.01	Reference Bohn, H. (1998). “The Behavior of US Public Debt and Deficits.” The Quarterly Journal of Economics 113(3):949–963. doi:10.1162/003355398555793.. D’Erasmo, P., Mendoza, E. G., & Zhang, J. (2015). What is a sustainable public debt?. In Handbook of Macroeconomics (Vol. 2, pp. 2493-2597) Elsevier. Fincke, B., and A. Greiner. (2011). “Debt Sustainability in Germany: Empirical Evidence for Federal States.” International Journal of Sustainable Economy 3(2):235–254. doi:10.1504/IJSE. 2011.039442. Greiner, A., and B. Fincke. (2015). Public debt, sustainability, and economic growth. Switzerland: Springer International Publishing Media. IMF (International Monetary Fund). 2011. “Modernizing the Framework for Fiscal Policy and Public Debt Sustainability Analysis.” Policy Paper. https://www.imf.org/external/np/pp/eng/ 2011/080511.pdf Kaur, B., Mukherjee, A., & Ekka, A. P. (2018). Debt sustainability of states in India: An assessment. Indian Economic Review, 53(1–2), 93–129 Mukherjee, S. (2020). Goods and services tax efficiency across Indian states: Panel stochastic frontier analysis. Indian Economic Review, 1–27, RBI (2013). State Finances: A study of budgets -2020- 21. Rangarajan, C., and D. K. Srivastava. 2005. “Fiscal Deficits and Government Debt: Implications for Growth and Stabilization.” Economic and Political Weekly 40(27): 2919–2934 Renjith, P. S., & Shanmugam, K. R. (2018). Sustainable debt policies of Indian state governments. Margin: The Journal of Applied Economic Research, 12(2), 224-243.