Tag: concerns

States need to take credible steps to address debt sustainability concerns: RBI report

Banking & Finance

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As the impact of the second wave of the Covid pandemic wanes, the State governments need to take credible steps to address debt sustainability concerns, according to a Reserve Bank of India (RBI) report.

The report “State Finance: Study of Budgets” noted that the combined debt-to-GDP ratio of States, which stood at 31 per cent at end-March 2021, is expected to remain at that level by end-March 2022 and is worryingly higher than the target of 20 per cent to be achieved by 2022-23, as per the recommendations of the Fiscal Responsibility and Budget Management (FRBM) Review Committee, chaired by NK Singh.

In view of the pandemic-induced slowdown, the 15th Finance Commission expects the debt-GDP ratio to peak at 33.3 per cent in 2022-23 (given the higher deficits in 2020-21, 2021-22 and 2022-23), and gradually decline thereafter to reach 32.5 per cent by 2025-26.

The report observed that the budgeted gross fiscal deficit (GFD) of 3.7 per cent of GDP for States for the year 2021-22 – lower than the 4 per cent level as recommended by the 15th FC – reflects the State governments’ intent towards fiscal consolidation.

The report said in 2021-22 so far (April-September 2021), the gross and net market borrowings by State governments have been 13 per cent and 21 per cent lower than in the corresponding period of the previous year, respectively.

States have preferred to borrow from the financial accommodation provided by the RBI through short-term borrowing via the special drawing facility (SDF) and ways and means advances (WMA).

Additionally, in recent years, the States have been accumulating sizeable cash surpluses in the intermediate treasury bills (ITBs) and auction treasury bills (ATBs), although they involve a negative carry of interest rates for the States. The report underscored that this warrants improvements in cash management practices.

Power sector reforms

The report emphasised that in the medium term, improvements in the fiscal position of State governments will be contingent upon reforms in the power sector as recommended by the 15th FC and specified by the Centre – creating transparent and hassle-free provision of power subsidy to farmers, preventing leakages, and improving the health of the power distribution companies (DISCOMs) by sustainably alleviating their liquidity stress.

The report opined that timely payments of State dues to DISCOMS and, in turn, by them to generation companies (GENCOS) hold the key to the sector’s financial health.

As per the assessment of the RBI’s Department of Economic and Policy Research, undertaking power sector reforms will not only facilitate additional borrowings of 0.25 per cent of GSDP by the States but also reduce their contingent liabilities due to the improvement in the financial health of the DISCOMs.

Third-tier front

On the third-tier (urban local bodies) front, the report recommended increasing the functional autonomy of civic bodies, strengthening their governance structure and financially empowering them via higher resource availability through self-resource generation and transfers, as they are critical for building resilience and effective interventions at the grass-root level.

The State governments should set up State Finance Commissions (SFC) at regular intervals, in line with the recommendations of the 15th FC. The report said States may also urge rural and urban local bodies to make audited accounts available online in a timely manner to access grants.

In addition, States should undertake local body reforms as stipulated by the Centre to improve the financial autonomy of third-tier governments. “Overall, the sub-national fiscal positions are at an inflection point.Empowerment of the third-tier government presents an opportunity that can result in better and more effective pandemic crusaders in the future,” the report said.

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Yields harden as liquidity concerns outweigh positive news

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Benchmark yields rose 5 basis points last week compared to the previous one pushed up by concerns on the liquidity front despite a slew of positive news.

The week commenced with the FY22 second-half borrowing calendar coming in at ₹5.03-lakh crore, which was well within the anticipated level. Then came the fiscal deficit number for April-August at 31 per cent of the Budget Estimate. The GST collections for September also came in at ₹1.17-lakh crore which is 23 per cent higher compared to the same month last fiscal.

However, yields continued to move higher as concerns on the liquidity front took precedence. For one, the cut-off on the seven-day variable rate reverse repo auction came in at 3.99 per cent last week. Compared to this, the cut-off on the 14-day variable rate reverse repo auction was at 3.6 per cent the week before.

This implies that the RBI is gradually getting comfortable paying a relatively higher rate in order to suck out the excessive liquidity sloshing around in the system.

Rate review

Bond market participants are wary that the central bank will raise the variable rate reverse repo (VRRR) auction quantum as well as the tenors and also raise the fixed reverse repo rate in the upcoming Monetary Policy.

Ananth Narayan, Professor-Finance at SPJIMR, said a lot has happened over the past few weeks that wasn’t conducive for the bond market. “Commodity prices have shot up, there have been energy shortages around the world, mainly China and the UK, and the whole confusion about the US debt ceiling also added pressure on the US treasury yields.

“As we worry about cost-push and imported inflation, the concern is whether the RBI might start reducing G-SAP and raising overnight rates next week. I believe the central bank would not want to shock the markets. They may increase the VRRR and suck out some of the excess liquidity, but would also comfort the market that the liquidity would remain on the surplus side for much longer. I think it would be a surprise if the benchmark yield goes beyond 6.30 per cent in the short term,” Narayan said.

The 10-year US treasury yield also went up to 1.56 per cent last week before cooling to 1.46 per cent. With the benchmark yield hitting 6.24 per cent, bond traders expect the yield to find solace close to the 6.3 per cent level. All eyes are now on the Monetary Policy where the crucial thing to watch out would be any potential changes in the VRRR quantum, tenor as well as the fixed reverse repo rate.

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RBI has major concerns on cryptocurrencies, flagged it to govt: Das

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The Reserve Bank of India has “major concerns” on the cryptocurrencies traded in the market and has conveyed the same to the government, its governor Shaktikanta Das on Thursday said.

Underlining that both the government and the RBI are “committed to financial stability”, Das said there are no differences between the central bank and the Finance Ministry on the matter, and “we should now await the final decision on the matter” from the Centre.

Also read: Economic activity to continue unabated: RBI Governor

The comments come in light of what has been termed as confusing signals from the government on the cryptocurrencies. After announcing its intent to completely ban such currencies, which are very volatile in nature without any underlying principle guiding its values, the government had shown some openness to such currencies like Bitcoin.

“Central bank digital currency is one thing. The cryptocurrencies which are traded in the market are something else. Both RBI and government are committed to financial stability. We have flagged certain concerns around these cryptocurrencies which are being traded in the market. We have flagged certain major concerns to the government,” Das said.

He said the matter is still under the examination of the government, and a decision on this issue will be taken by it sooner than later.

It can be noted that the RBI had first banned such currencies through an order, which was struck down by the Supreme Court last year. The central bank’s concerns stem from the non-fiat nature of such currencies which are touted as the future in some quarters, and in the volatile price movements in them. In the past, the RBI had also come out with an appeal cautioning people not to trade in such currencies.

After the government proposed a complete ban on such currencies in a Bill presented in January, Finance Minister Nirmala Sitharaman had earlier this month said that she is all for encouraging experiments in the field, which was termed as a confusing signal in some quarters.

Das on Thursday said the RBI continues its work on a digital version of a fiat currency, and is currently “assessing the financial stability implications of introducing such a Central Bank Digital Currency (CBDC)”.

“As the underlying technology is still developing, we are exploring ways for a clear, safe and legally certain settlement finality, which is most crucial for a secure and efficient payment system,” he said.

Das added that there are not many “practical instances” of operationalisation of a CBDC globally, and this calls for “utmost precaution” before India goes ahead.

Meanwhile, Das said digital is the future across the banking landscape and “we will have a lot of shifts taking place on this front going ahead”.

From a regulatory perspective, fostering effective regulations will be a priority for the RBI, he said, adding it is an endeavour not to constrain innovations but to promote those without compromising on financial sector stability, cybersecurity and customer protection.

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