Context: Recently International Monetary Fund (IMF) has raised concerns about the long-term sustainability of India’s debts. It cautioned that general government debt is likely to exceed 100 percent of India’s gross domestic product (GDP) in the near future. In this context let us discuss the need for managing public debt in India and how far India’s debt levels are sustainable.
Central government’s debt stood at 57% of GDP at the end of March 2023(General government debt is around 85% of GDP) and the ratio of public debt to GDP is expected to increase over the next financial year.
Need to manage public debt:
- Interest Burden: In FY22, interest payments accounted for 20% of Centre’s total expenditure. Using substantial resources for interest payment of previous debt reduces government funds available for investment in infrastructure and critical public services.
- Cost of Borrowing: Accumulation of large amount of debt can erode government’s credibility in financial markets and lead to higher interest rates on new borrowings.
- Crowding out of Private Investment: If government borrows excessively, it competes with private borrowers for available funds in financial market. This leads to higher interest rates for borrowing and may discourage private sector from taking loans.
- Capital Flight: High-level of public debt can erode investor confidence and this may lead to reduction in both Foreign Institutional and Foreign Direct Investments.
- Fiscal Capacity: Excessive debt can impact government’s fiscal capacity and can lead to trade-off between Revenue Expenditure and Capital Expenditure.
- Inflationary Pressures: Excessive borrowing from Central bank can lead to increase in money supply which in turn can cause inflationary pressures.
Sustainability of India’s debt can be assessed by the factors, below:
- Low currency risk: Till March 2021, 95% of Government’s total net liabilities were denominated in domestic currency, and 5% constituted sovereign external debt, implying low currency risk.
- Low interest risk: Till March 2021, Public debt in India was primarily contracted at fixed-interest rates, with floating internal debt constituting only 1.7% of GDP, thus, insulating debt portfolio from interest rate volatility.
- Maturity of debt: Over last few years, proportion of dated securities maturing in less than five years has declined, whereas long-term securities have shown an increasing trend, thus reducing rollover risk in medium-term.
- Stable government’s debt profile without undue pressure on yields as majority of outstanding debt of government(G-secs) is subscribed by commercial banks, insurance companies and provident funds.
- Interest rate growth differential: IRGD refers to the difference between the average interest rate that governments pay on their debt and the (nominal) growth rate of the economy. This has been negative for India which implies higher growth rate viz-a-viz interest rate, hence, public debt comes with low fiscal costs and an eventual decline in debt-to-GDP ratio.
Thus, India should pursue counter-cyclical fiscal policy and take up debt in times of crisis to boost economic growth in a sustainable manner.
