Government of India
Ministry of Finance
Department of Expenditure

North Block, New Delhi
Dated October 24, 2005

Office Memorandum

Subject: Guidelines for examination of proposals of States for availing external loan assistance for structural adjustments and of Debt-stressed States for any external assistance loans

Attention is drawn to the O.M. of even number dated August 4, 2004 with respect to the debt-sustainability concerns for availing of external assistance loans by debt-stressed States (Annex-A). Department of Expenditure (DoE) is also the nodal line Department for structural adjustment loans from multilateral/bilateral organizations (para 6 of Annex-A). Department of Economic Affairs (DEA) guidelines for structural adjustment programme are at Annex-B .

2. DoE has been examining proposals of structural adjustment loans taking into account Medium Term Fiscal Reforms programme prepared by the States under Fiscal Reforms Facility (FRF) to determine whether the States were on track on FRF path or not. Consequent upon termination of FRF upon acceptance of the report of the Twelfth Finance Commission (TFC) and institution of a Debt Consolidation and Relief Facility (DCRF), it has become necessary to revisit the criteria for assessment of debt sustainability of the States before DoE agrees to availing of external loan assistance by any State for structural adjustment loans and for debt-stressed States with reference to any external assistance loans.

3. Pursuant to the recommendations of the Twelfth Finance Commission (TFC), a scheme of States ' Debt Consolidation and Relief Facility (2005-06 to 2009-10) has been evolved and issued by the DoE for implementing the condition of eliminating revenue deficit and bringing down fiscal deficit to 3% of GSDP by 2008-09 linked to debt write off. The States are also required to adopt a Fiscal Responsibility and Budget Management law incorporating the core provisions suggested by the TFC. As the States have been required not to exceed the fiscal deficit levels of 2004-05 and bring down the same to 3% by the end of 2008-09, DoE has worked out permissible fiscal deficits assuming uniform reduction path from the level of 2004-05. States are also expected to lay down their own Fiscal Correction Path to target these goals and provide the same to DoE, along with their proposals for debt consolidation.

4. In the light of the recommendations of TFC, the States are expected to fulfill the following conditions before DoE agrees to recommend their proposals for availing of Structural Adjustment Loans (SAL):-

  1. Enactment of Fiscal Responsibility Legislation in line with TFC's requirements;
  2. Drawing up a State 's own Fiscal Correction Path to reduce the revenue deficit to zero in 2008-09, contain fiscal deficit at the level of 2004-05 and bring the same down to 3% of GSDP by 2008-09;
  3. Furnishing a Letter of Commitment adopting the fiscal correction path with outcome indicators and process milestones; and
  4. Submission of a Concept Note on SAL;

5. SAL facility will be further subject to following conditions:

  • The SAL will be disbursed to the State Government in 2-3 tranches.The size of each tranche and size of SAL will be decided on case to case basis at the time of finalization of the loan tranche and will be triggered only upon the achievement of benchmarks as contained in the fiscal correction path.
  • The end-use of the SAL facility will primarily cover retiring outstanding higher coupon debt. Other areas of reform may also be covered, through this loan, as per the concept note.
  • Once the SAL is under implementation, if the achievement of benchmarks contained in the fiscal correction path falls behind by six months or if the adjustment programme is unlikely to be pursued further, the SAL could be called off and the remaining undisbursed assistance cancelled.
  • States should make necessary provisions in the State Plan /Budget only after affirmation by DEA to this effect.

6. The State Governments are advised to furnish their concept notes for such assistance to DoE for their examination before DEA poses the same to the external multilateral/ bilateral agencies.

7. Debt sustainability concerns have persuaded DoE to prescribe overall borrowing ceilings for each State. With respect to Article 293(3) of the Constitution, as long as a State intends to borrow external assistance loans within this overall borrowing ceiling, the DoE would have no objection to such a borrowing. Where a State intends to borrow an external assistance loan in excess of the overall borrowing ceiling the requests would be examined on case to case basis. DoE would discourage any such borrowing by a 'debt-stressed 'State.

8. DoE has been considering a State as 'debt stressed ' if the ratio of its consolidated debt ( outstanding liabilities plus guarantees) to total revenue receipts exceeds 300% (200% in case of Special Category States). As ratio of interest payments to total revenue receipts captures the debt-stress better, it has been decided, following the recommendation of the Finance Commission, to treat any State with interest to revenue ratio higher than 20% as 'debt stressed '. A tentative indicative list of such States as per 2004-05 (RE) is at Annex-C along with the ratios.

9. All debt-stressed States would be required to take concurrence of the DoE before sending their projects to the DEA for being considered for external loans. No clearance of DoE would be, of course, required for grants received for States 'projects and for technical assistance projects.

10. DoE would be guided by the following principles while examining the proposals of debt-stressed States.

  1. If the project being proposed for external financing is included in the 10th / 11th Five Year Plan of the concerned State and has accordingly been taken into consideration in the overall borrowing ceiling of the State, the DoE would not have any objection to its being posed;
  2. If the proposed project was not included in the original 10th / 11th Five Year Plan proposals of the State concerned, the State would be discouraged from going in for such a borrowing. However, if the State feels that borrowing for such a project is in the interest of the State, the State would be asked to substitute an otherwise agreed source of borrowing which would mostly be from the class of negotiated loans/bonds and debentures permitted and agreed for the State.

11. As recommended by the Twelfth Finance Commission, the funds will be passed on to the States on a back to back basis for the External Aided Projects/SAL signed on or after April 1, 2005.

Joint Secretary to the Govt. of India

Finance Secretary,
Govt. of ............

Copy to:

  • PPS to Secretary (Exp),
  • PPS to Addl. Secretary (Exp)
  • Addl. Secretary (EA),
  • Joint Secretary (ABC)
  • Joint Secretary (FB)- DEA, MoF, North Block