Context
- The new Union budget, which was unveiled last week by Finance Minister Nirmala Sitharaman, has a solid strategy to further reduce the fiscal deficit as a percentage of India’s GDP (GDP).
- The fact that the public debt to GDP ratio is anticipated to rise over the upcoming fiscal year, despite this fiscal correction, did not receive enough attention in the immediate aftermath of the event.
Relevance
GS Paper-3: Indian Economy and issues relating to planning, mobilization of resources, growth, development, and employment
Mains Question
To increase economic resilience for the upcoming years, the public debt ratio needs to return to levels that were at least pre-pandemic. Discuss. (150 words)
Public Debt in India
- The total obligations of the Union government that must be settled out of the Consolidated Fund of India are referred to as public debt in India.
- The term is occasionally also used to describe the total debt owed by the federal and state governments.
- But the Union government makes a point of separating its debt obligations from those of the states. General Government Debt (GGD) or Consolidated General Government Debt is the term used to describe the total liabilities of both the federal government and state governments. These obligations are categorised as part of the Union government’s public debt by the Consolidated Fund of India. According to Constitutional Article 292, this is the case.
- Internal loans, which make up the majority of public debt in India, are further divided into two main categories: marketable and non-marketable debt. Internal loans account for more than 93% of the country’s total public debt.
- Marketable debt includes dated government securities (G-Secs) and treasury bills (T-bills), both of which are issued through auctions.
- Non-marketable debt includes special securities issued to the National Small Savings Fund (NSSF), intermediate treasury bills (with a 14-day maturity period) issued to state governments and public sector banks, and other types of debt.
Sources of Public Debt
- include: Treasury Bills, Foreign Assistance, Dated Government Securities (G-secs), Short-Term Borrowings, and T-Bills.
- Definition of Public Debt by Union Government
- The effects of a high public debt ratio include:
- Three main effects of a high public debt ratio on macroeconomic policy over the medium term.
- The government has less money to spend on necessary things like infrastructure, the transition to a green economy, welfare programmes, defence, and social security due to the interest costs of servicing this public debt.
- Second, when the public debt ratio is already high, the government’s capacity to respond to the ensuing shock is constrained.
- Third, the government’s massive public debt burden compromises the Reserve Bank of India’s ability to implement an independent monetary policy to control inflation.
- Therefore, fiscal policy should aim to reduce the public debt ratio to more manageable levels over the remainder of this decade.
- As the pandemic threat has subsided and the economy has recovered, more attention needs to be paid to gradually reducing the public debt ratio over the remainder of this decade.
Fiscal Deficit
- The difference between total receipts into the fund (excluding debt receipts) and total disbursements from the Consolidated Fund of India during a fiscal year is known as the fiscal deficit.
- To put it simply, it is the amount of government spending that exceeds its revenue and is expressed as a percentage of GDP.
- Total expenditure minus revenue receipts minus capital receipts minus borrowings equals the fiscal deficit.
- The term “fiscal consolidation” describes strategies for reducing the fiscal deficit.
THE THREE PILLARS FOR REDUCING PUBLIC DEBT:
- Any plan to lessen the weight of public debt must be based on these three pillars, according to the economics of public debt dynamics:
- One, by ensuring that the denominator is growing faster than the numerator, an acceleration in nominal GDP growth can reduce the public debt ratio.
- Second, the acceleration in nominal GDP growth needs to be viewed in relation to the average cost of government borrowing; the difference between the two (r-g) should be interpreted as a measure of how quickly India can eliminate its public debt issue.
- The primary deficit, or the gap in the government budget after interest costs on existing public debt are eliminated, will need to be reduced as part of fiscal policy, not just the headline fiscal deficit.
Parameters Determining Public Debt
- The trajectory of public debt over the coming years will depend on the expansion of economic output, inflation, interest rates, and fiscal policy, among other factors.
- We have some helpful context thanks to the first ten years of this century.
- Between 2002-03 and 2010-11, the public debt ratio decreased by about 17 percentage points.
- The primary deficit sharply decreased as a result of India’s spectacular growth acceleration, which made the first part successful.
- When the North American financial crisis reached Indian shores, this came to an end. Growth started to slow down, and the financial situation got worse.
- However, despite fiscal mismanagement and high inflation, which resulted in a run on the rupee in the middle of 2013, the public debt ratio continued to decline because high inflation kept nominal GDP growth well above borrowing costs.
What should be done right away?
- Unless there is a structural shift in both potential growth and inflation, nominal GDP growth in the upcoming years is likely to be in the very low double digits, and the difference between interest rates and nominal GDP growth will also be modest. This implies that the automatic mechanisms for reducing the public debt ratio cannot accomplish the task by themselves.
- To reduce the primary deficit in the upcoming years, the government must use fiscal policy.
Conclusion
- The primary deficit necessary to stabilise the public debt ratio, according to the International Monetary Fund’s recent report on the Indian economy, is 2.3% of GDP.
- According to the Institute of International Finance’s deputy chief economist, assuming real growth of 5.5%, inflation of 4%, and average borrowing costs of 6.5% over the next financial year, India’s projected primary deficit is 1 percentage point higher than what is required for public debt stabilisation.
- India has done a good job of managing its public finances during these trying times, but in order to increase economic resilience going forward, the public debt ratio needs to at least reach pre-pandemic levels.
