South Asia's heavy reliance on state-owned financial entities is concealing vulnerabilities to a growing level of unsustainable debt and may cause financial crises in the region, warned the World Bank. 

Funding guarantees by state-owned banks and enterprises public-private partnerships and other national and sub-national public entities expose the region, including India and Pakistan, to the risk of “hidden debt”, said the World Bank in its recently released report titled 'Hidden Debt: Solutions to Avert the Next Financial Crisis in South Asia'.

Over the years, part of the debt is revealed as it hits the central government budget and debt stock, but a large part remains hidden under the radar of existing financial disclosure standards.

"The efficiency of South Asian state-owned banks and other state-owned enterprises is well below the international benchmark," Hans Timmer, the World Bank’s chief economist for South Asia, said.

"In episodes of systemic shocks - such as the global financial crisis or the COVID-19 pandemic - when many banks experience distress simultaneously, private banks deleverage and curtail lending, while state-owned commercial banks receive capital and debt support from the state to continue or increase lending," said Martin Melecky, World Bank lead economist and author of the report. 

The recapitalization of these state-owned enterprises and banks during crisis time also comes at the cost of public funds which are meant for other social spendings. 

For instance, the report highlighted, in the case of Pakistan, the total liabilities of chronic loss-making SOEs have been eight to 12 percent of GDP in recent years, several times more than the country's public spending on education in FY 2019-20. In Sri Lanka, It is five percent.

The report further offers key areas for policy actions and concrete reforms to governments to leverage public capital more responsibly to advance economic development. 

"As governments rebuild from the shock of the COVID-19 pandemic and strive to avert future financial crises, they should clearly separate the social and commercial objectives of these enterprises in order to reduce inefficiencies, while maintaining socially beneficial investment," the report suggested.