Reserve Bank of India governor Bimal Jalan held a meeting with finance secretaries of various states on Saturday to discuss the formation of sinking funds and guarantee funds for each state. "We will get back to the Reserve Bank once the proposal is cleared by the ministry. Most probably, we will launch the fund in the next fiscal," state principal secretary (finance) Ravi B Budhiraja said.

Punjab is the first state to enter the market on its own might, breaking away from the tradition of state governments accessing the market at a predetermined coupon. Punjab auctioned Rs 60 worth of 10-year paper last week.

Explaining the framework of a sinking fund, sources said: "Those states which are willing to set upthe fund will contribute 3 per cent of their annual gross market borrowings to it. Effectively, the fund will have a moratorium for ten years as historically all state government papers are of 10 years maturity. In other words, if some states decide to launch the fund in fiscal 2000, the proceeds of the fund will be utilised in 2010 to redeem the state government paper floated in 2000."

There will be a string of sinking funds, floated by "willing" states and managed by the RBI. The central bank will invest the fund in government securities -- both secondary as well as the primary markets. "The RBI may consult individual states--owner of the funds-- while investing in particular state or central government paper," sources said.

The sinking fund will be used to repay the debt obligations of the states. "Traditionally, states repay debt by floating a new paper or making a budgetary allocation. The proposed sinking fund will give the states a third source of repaying old debt. We can use all the threesources, depending on the situation," said another official who attended the meeting.

"It may not be easy to contribute to the fund as the health of the state governments is not very sound. However, it is a prudent practice. The 3 per cent slab has been fixed keeping in mind the state of financial health...Once the ball start rolling, we may increase it," the source said.

A few financially weak states are believed to be resisting the 3 per cent floor level. "Some states want the contributory amount to be one per cent of their total market borrowing in a particular year. However, the RBI has not agreed to it," sources said.

There has been a consensus among the state governments on raising the limit on ways and means advances available to each state. "We have approached the central bank to increase the level of advances available to us. The amount should be linked to individual state's revenue receipts and capital expenditure," sources said.

At present, ways and means advances are made available tostates depending on the government securities held by them which is secured in nature. A certain amount of unsecured fund is also made available to each state depending on their financial position and capacity to service debts.

In 1997-98, 16 states resorted to overdrafts as compared with eight states in the previous year, reflecting a persistent stress on liquidity management and underlying structural imbalances in the state finances. Out of these states, three states were not able to clear their overdraft with the RBI.