The electricity chokepoint in Tamil Nadu public finance

Charmi Mehta, Radhika Pandey, Renuka Sane and Ajay Shah

Each state in India can be visualised as an entity in itself. Vast magnitudes of finance will be needed to put the states on an energy transition pathway. While this pathway will be different for every state, the electricity sector is likely to be the recipient of much of these funds. The investibility of the electricity sector is thus an important field of study.

Many states in India face fiscal distress and many states in India have difficulties in the electricity system. In a new paper, 'The electricity chokepoint in Tamil Nadu public finance', we bring the two streams of knowledge together for the state of Tamil Nadu, and offer fresh insights for fiscal policy and for electricity policy.

The formal toolkit of a `debt sustainability analysis' (DSA) is brought to the standard Tamil Nadu fiscal data. This involves a first stage of comparing a group of fiscal indicators against normative benchmarks, and a second stage of forecasting the debt/GSDP ratio and the interest payments to revenue receipts ratio (IP/RR ratio) for five years; till FY 2028. These results, which we term the `baseline DSA' translate the mainstream intuition towards Tamil Nadu's fiscal difficulties into tangible numbers and forecasts.

A consolidated financial picture is drawn by integrating the two electricity sector utilities -- TANGEDCO and TANTRANSCO -- fused into the Government of Tamil Nadu debt stock. This yields a modified DSA that we term a `Corrected DSA'. This is done to acknowledge the implicit guarantee that state governments hold towards the debt of state-owned entities. This modified picture is thus a truer depiction of the fiscal problems of the state.

The fact that large debt servicing expenditures were successfully achieved for the last decade has helped create a confidence that the fiscal strategy of Tamil Nadu is deplorable but feasible. Of essence in the fiscal outlook of every highly indebted entity is the problem of sustainability. There are three concerns:

1. Sustained large scale borrowing, from the financial system, may potentially face difficulties through the risk appetite of lenders, changes in regulations, systemic crises in the financial system, etc.
2. The most important assumptions that shape the results of this paper are the nominal interest rate ($r$), estimated at 7%, and nominal GSDP growth rate ($g$), estimated at 9%. This has a $r-g$ of -2: it is a very positive environment from the viewpoint of fundamental fiscal dynamics. In the future, if $r-g$ becomes less benign, the debt dynamics could change significantly.
3. The conventional notion of fiscal stress is phrased in terms of bond default. In India, fiscal distress is known to manifest itself as unplanned budget cuts (that disrupt the working of the government), defaults on payments to private firms, and even the deferrals salaries or pensions. We look back upon three instances when state governments faced high fiscal stress in 2001, and find that the present projections for Tamil Nadu for FY 2028 are partially similar to these values.

The fiscal knowledge of this paper has implications for electricity policy. The electricity system requires two large blocks of investment. A big block of capital is required to rebuild the grid for the post-carbon world. And, a big block of capital is required for the investment in renewables and storage that are required to sustain economic growth in the post-carbon world. Of particular importance is the economic upside from exploiting that remarkable natural resource which is found off the coast of Tamil Nadu in the form of offshore wind generation. These investments will not arise in the environment of chronic fiscal stress in the electricity system.

The electricity knowledge of this paper has implications for fiscal policy. Through simulations where electricity subsidies remain constant or they are completely eliminated, we find that the electricity system is material in solving the fiscal problem. Thus, we extract the electricity subsidy problem from the sector, and place upfront its impact on the public finance parameters and the development trajectory of the state. A complete electricity sector reform versus business-as-usual translates into an FY 2028 outcome for the debt/GSDP ratio of 32.47% vs. 43.53%, and an IP/RR ratio outcome of 19.71% vs. 26.12%. These are large differences. They encourage us to prioritise electricity sector reform as a part of the medium-term fiscal strategy.

Charmi Mehta and Ajay Shah are researchers at XKDR Forum. Radhika Pandey is a researcher at NIPFP. Renuka Sane is a researcher at Trustbridge.