The Hindu Business Line : States face rising debt costs

But unlike last year, when the average cost of borrowings were about 5.7 per cent, this year the average cost is already seven per cent, partly due to the fact that the last few rounds were all between 7.10 per cent and 7.4 per cent. States have completed at least 15 per cent of their borrowing targets.

The sources said that this means the States are headed for much larger gaps in their revenue deficits.

Revenue deficits estimated for the current fiscal were assumed that the borrowing costs would remain under 6 per cent this year as well. The revenue deficit increase would entirely led by the escalation in the non-plan expenditure. Interest outflows form part of the non-plan expenditure, the sources said. Besides the surge in inflation has also driven up their administrative expenditure, the sources added.

The Southern States are likely to be among the worst hit, particularly because these States had planned to refinance large components of their high-cost borrowings in a bid to further reduce their deficits.

But that refinancing is no longer attractive, especially since the cost advantages have almost vanished.

Pricing for state loans are expected to rise further in the coming weeks as liquidity tightens. This has been evident from the pricing of the last round of sovereign borrowings.

The pricing was done at 7.20 per cent for the 7.55 per cent 2010 bond issue. Accordingly, bankers said that State Governments would be expected to pay at least 7.75 per cent for their borrowings in the coming months.

Most States also have another debt window in the form of guaranteed borrowings. These include borrowings from financial institutions including LIC of India and Nabard.

States like Karnataka had hoped to shed some of their high-cost borrowings by renegotiating a reduction in interest. However, the sources said, with rates moving up FIs had expressed reluctance to bring down the borrowing costs.

These are bonds issued by the State-owned PSUs and special purpose companies with the support of guarantees or letter of comfort from the respective Governments. They bonds had come with call options.

The State Governments had expected to exercise their early exit option on these loans and substitute them with lower cost borrowings. In the changed environment, none of the States are now prepared to exercise the call options.