Enron, once the seventh-largest company in the world, became the darling of the stock markets by hiding its debt in off-balance sheet vehicles – only to collapse when the truth came to light. Something similar has happened in many developing countries that hid their debt till it was too late. State governments need central permission for borrowing above 3% of GDP and will protest that the new rules crimp their style. A fair solution may be to raise the permission-free limit to 3.5% of GDP.
The new rules should apply not just to fiscal deficits but to total debt as well. All debt accumulated through off-budget means must be added to central and state government debt, since the old Fiscal Responsibility and Budget Management (FRBM) target in terms of the fiscal deficit has been replaced by a debt target. GoI is supposed to reduce its debt to 40% of GDP from about 60% currently; the states to 20%. These targets should be revised appropriately to include off-budget debt. A new fiscal committee with central and state representatives should work out new norms based on fiscal truth, and not on creative accounting.