ET in the classroom: Off-budget financing

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Off-budget financing by its nature isn’t taken into account when calculating fiscal indicators.
The Comptroller and Auditor General (CAG) of India has pulled up the government for increased use of off-budget financing for schemes and subsidies in its Compliance of the Fiscal Responsibility and Budget Management Act report for FY17.

ET explains off-budget financing and its implications.

WHAT IS OFF-BUDGET FINANCING?
This refers to expenditure that’s not funded through the budget. For example, the government sets up a special purpose vehicle (SPV) to construct a bridge. The SPV will likely borrow money to build the bridge on the strength of a government guarantee. If it’s not a toll bridge, the SPV will need government support to meet interest obligations. So, even though the borrowing and spending is outside the budget, it has implications for the budget and for all practical reasons should be included in that document. Since it’s not, this doesn’t reflect on the fiscal deficit number as well. Governments across the world use this to escape budget controls.
WHY IS OFF-BUDGET FINANCING IMPORTANT? WHAT ARE ITS IMPLICATIONS?
Off-budget financing by its nature isn’t taken into account when calculating fiscal indicators. But the cost is borne by the budget through some mechanism or the other. Such financing tends to hide the actual extent of government spending, borrowings and debt and increase the interest burden.

In the above example, the borrowing by the SPV should ideally be included in the government’s debt. To the extent that this spending is backed by a government guarantee, it entails a fiscal risk. Parliamentary control on such spending is also reduced as its remains outside the budget.

OFF-BUDGET FUNDING IN FY17

REVENUE SPENDING:
1. Deferred fertilizer arrears/bills through special banking arrangements

2. Food subsidy bills/arrears of Food Corp. of India through borrowings
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3. Accelerated Irrigation Benefit Program through National Bank for Agriculture and Rural Development borrowing

CAPITAL SPENDING
1. Indian Railway Finance Corp. borrowing for railway projects

2. Power Finance Corp funding of power projects

WHAT HAS CAG SUGGESTED?
A policy framework for off-budget financing that should include disclosures to parliament about the amount, rationale and objective of such funding.
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