Economic Indicators and Various Reports On It- GDP, FD, EODB, WIR etc

Concerns of High Fiscal Deficit and Public debt for Indian Economy

Note4Students

From UPSC perspective, the following things are important :

Prelims level: Key concepts

Mains level: Fiscal deficit, public debt its impact and Fiscal consolidation measures

What’s the news?

  • The Indian economy grapples with a soaring fiscal deficit and public debt, posing a critical challenge to its financial stability. With impending state and general elections in 2023 and 2024, the electoral budget cycle could worsen the debt situation, raising questions about its sustainability.

Central idea

  • The escalating levels of fiscal deficit and public debt in India have been a persistent concern, even before the COVID-19 pandemic hit. Although there has been some recovery in the post-pandemic period, projections indicate that returning to pre-pandemic debt levels in the medium term seems unlikely.

What is meant by fiscal deficit?

  • A fiscal deficit refers to the difference between a government’s total expenditures and its total revenues (excluding borrowings) during a specific period, usually a fiscal year.
  • It is a crucial component of a country’s fiscal policy and represents the amount of money the government needs to borrow to meet its expenditure commitments when its total expenses exceed its total revenue.

What is meant by public debt?

  • Public debt represents the total amount of money that a country’s central government owes to various creditors, whether individuals, financial institutions, or foreign governments, at a specific point in time.
  • It is the cumulative result of past fiscal deficits and surpluses. Public debt includes all outstanding government borrowings, including both short-term and long-term debt.

What is meant by financial repression?

  • Financial repression is an economic term used to describe government policies and regulations that manipulate interest rates, capital flows, and other financial instruments to channel funds towards the government’s debt obligations and other strategic priorities.
  • It typically involves measures aimed at reducing the cost of government borrowing and raising funds for public spending, often at the expense of savers and investors.

India’s fiscal deficit and public debt

  • One of the Highest Debt Levels: Even before the COVID-19 pandemic, debt levels were among the highest in the developing world and emerging market economies.
  • Fiscal Deficit: The fiscal deficit in 2020–21 increased to 13.3% of GDP and has receded to 8.9% in the post-pandemic period.
  • Public Debt: The aggregate public debt relative to GDP was 89.6% in 2020–21 and decreased to 85.7% after the economy started recovering from the pandemic.
  • Debt-to-GSDP Ratios in Specific States: The debt-to-GSDP ratios in specific states: Punjab (48.9%), West Bengal (37.6%), Rajasthan (35.4%), and Kerala (close to 33%)

Impact of financial repression

  • High Debt and Interest Payments:
  • Financial repression may lead to higher government debt levels as it facilitates borrowing at low-interest rates. As a result, interest payments on the accumulated debt can become a significant burden on the government’s finances.
  • On average, interest payments constitute over 5% of GDP and 25% of revenue receipts in India. This surpasses government expenditures on critical sectors like education and healthcare, hindering investments in essential infrastructure and human development.
  • State-Specific Concerns: Certain states in India, such as Punjab, Kerala, Rajasthan, and West Bengal, are particularly affected by high Debt-to-GSDP ratios. The debt burden in these states poses challenges for managing finances and implementing developmental initiatives.
  • Constraints on Fiscal Policy: Elevated debt levels resulting from financial repression can limit the government’s ability to implement counter-cyclical fiscal policies during economic downturns. This constraint can hinder the government’s capacity to respond effectively to shocks and economic challenges.
  • Distorted Financial Market: Government interventions, such as the SLR requirement, can create imbalances in the allocation of funds, affecting the availability of credit for productive sectors like manufacturing.
  • Impact on Sovereign Rating and External Borrowing: Persistently high deficits and debt levels can lead to lower sovereign ratings by rating agencies. A low sovereign rating can increase the cost of external commercial borrowing, making it more expensive for the government to raise funds from international markets.
  • Burden on Future Generations: Excessive debt accumulation can lead to intergenerational equity issues, with future citizens having to repay the debt and interest accrued during the period of financial repression.

Way forward: Financial Consolidation

  • Fiscal Responsibility and Budget Management (FRBM) Rules: Enforce and strengthen the existing FRBM rules to ensure prudent fiscal management. Adhering to these rules can help control deficits and prevent excessive debt accumulation.
  • Targeted Interventions: Implement targeted interventions to reduce the debt burden while addressing critical needs such as education, healthcare, and infrastructure development. For instance, the government can allocate funds specifically to boost primary education and healthcare access in states with high debt burdens, such as Punjab, Kerala, Rajasthan, and West Bengal.
  • Infrastructure Investments: Prioritize investments in physical infrastructure, human capital, and green initiatives to enhance economic productivity and foster sustainable development. For example, investing in renewable energy projects can support the green transition while creating employment opportunities.
  • Enhance Tax Collection and Compliance: Improve tax administration and compliance to increase government revenue. Utilizing technology for cross-matching of GST and income-tax returns can enhance tax collection efficiency and curb tax evasion.
  • Fiscal Reforms at the State Level: Encourage states to adopt responsible fiscal policies and avoid excessive borrowing. For example, the central government can provide incentives to states that adhere to fiscal discipline and implement reforms to improve fiscal health.
  • Disinvestment and Efficient Asset Management: Pursue disinvestment and strategic asset management to optimize government resources and reduce the need for excessive borrowing. For instance, the government can consider divesting non-essential government assets and utilizing funds from asset sales efficiently. Instead of pouring money into BSNL, which may be better served by private sector expertise, the government can explore disinvestment options.
  • Market-Based Interest Rates: Gradually transition towards market-driven interest rates on government borrowing to ensure a more efficient allocation of capital in the financial market. This can help improve credit availability for the private sector.
  • Encourage Private Sector Participation: Promote private sector participation in critical sectors, allowing the government to focus on its core functions. For instance, the government can encourage private investment in infrastructure projects through public-private partnerships (PPPs).
  • Focus on Cash Transfers: Consider providing targeted cash transfers instead of subsidies for specific commodities and services. Cash transfers can be more efficient at redistributing resources without causing unintended distortions in relative prices.
  • Medium-Term Fiscal Consolidation: Develop and implement a medium-term fiscal consolidation plan to gradually reduce the fiscal deficit and public debt levels sustainably. This plan can include specific targets for debt reduction and deficit control.

Conclusion

  • Financial repression’s adverse effects, along with the heavy costs of high deficits and debt, necessitate responsible policy interventions and fiscal consolidation. Emphasizing technological advancements and prudent economic policies will be vital in tackling the debt burden and ensuring long-term fiscal sustainability.

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10 months ago

Thanks for this info! Very useful and informative article!

Last edited 10 months ago by Armani Belli

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