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Subject: Economics

  • Agriculture policy should target India’s actual farming population

    The article highlights the ambiguity about the number of farmers in India and related issues.

    How many farmers does India really have

    • The Agriculture Ministry’s last Input Survey for 2016-17 pegged the total operational holdings at 146.19 million.
    • The NABARD All India Rural Financial Inclusion Survey of the same year estimated the country’s “agricultural households” at 100.7 million.
    • The Pradhan Mantri Kisan Samman Nidhi (PM-Kisan) has around 111.5 million enrolled beneficiaries.
    • Agricultural households, as per NABARD’s definition, cover any household whose value of produce from farming activities is more than Rs 5,000 during a year.
    • That obviously is too little to qualify as living income.

    Who is real farmer

    • Agricultural households, as per NABARD’s definition, cover any household whose value of produce from farming activities is more than Rs 5,000 during a year.
    • That obviously is too little to qualify as living income.
    • A “real” farmer is someone who would derive a significant part of his/her income from agriculture.
    • This, one can reasonably assume, requires growing at least two crops in a year.
    • The 2016-17 Input Survey report shows that out of the total 157.21 million hectares (mh) of farmland with 146.19 million holdings, only 140 mh was cultivated.
    • And even out of this net sown area, a mere 50.48 mh was cropped two times or more, which includes 40.76 mh of irrigated and 9.72 mh of un-irrigated land.
    • Taking the average holding size of 1.08 hectares for 2016-17, the number of “serious full-time farmers” cultivating a minimum of two crops a year  would be hardly 47 million.
    • The above figure is also consistent with other data from the Input Survey.
    • These pertain to the number of cultivators planting certified/high yielding seeds (59.01 million), using own or hired tractors (72.29 million) and electric/diesel engine pumpsets (45.96 million), and availing institutional credit (57.08 million).
    • Whichever metric one considers, the farmer population significantly engaged and dependent on agriculture as a primary source of income is well within 50-75 million.
    • The current agriculture crisis is largely about these 50-75 million farm households.

    Lack of price parity

    • At the heart of farmers’ crisis is the absence of price parity.
    • In 1970-71, when the minimum support price (MSP) of wheat was Rs 76 per quintal, 10 grams of 24-carat gold cost about Rs 185.
    •  Today, the wheat MSP is at Rs 1,975/quintal, gold prices are Rs 45,000/10g.
    • The absence of farm price parity didn’t hurt much initially when crop productivity was rising.
    • Since the 1990s, yields have further gone up to 5.1-5.2 tonnes/hectare in wheat and 6.4-6.5 tonnes for paddy. But so have production costs. 
    • The demand for making MSP a legal right is basically a demand for price parity that gives agricultural commodities sufficient purchasing power with respect to things bought by farmers.

    Way forward

    • Most government welfare schemes are aimed at poverty alleviation and uplifting those at the bottom of the pyramid.
    • But there’s no policy for those in the “middle” and in danger of slipping to the bottom.
    •  When crop prices fail to keep pace with escalating costs — of not only inputs, but everything the farmer buys — the impact is on the 50-75 million surplus producers.
    • Any “agriculture policy” has to first and foremost address the problem of price parity.
    • Farmers’ interest be even better served by the government guaranteeing a minimum “income” rather than “price” support.
    • Subsistence or part-time agriculturalists, on the other hand, would benefit more from welfare schemes and other interventions to boost non-farm employment.

    Conclusion

    Whether it is crop, livestock or poultry, agriculture policy has to focus on “serious full-time farmers”, most of them neither rich nor poor. This rural middle class that was once very confident of its future in agriculture today risks going out of business. That shouldn’t be allowed to happen.

  • ECLGS ambit widened to cos with loan dues up to 60 days

    To provide relief to stressed companies, the Finance Ministry expanded the scope of a government-guaranteed credit facility to healthcare and stressed sector companies that have loan dues for up to 60 days (or SMA-1 accounts),as against 30 days earlier (SMA-0).

    Key highlights:

    • This has been expected to provide partial relief to stressed firms facing fresh uncertainty and business risks due to fresh lockdowns and restrictions being imposed by states.
    • SMA-1 borrowers in the healthcare sector and 26 other high stress sectorsare now eligible under ECLGS 2.0.
      • Companies from hospitality, travel & tourism, and leisure & sportingsectors are expected to benefit from the relaxation in the scheme.
    • Accounts that are classified as non-performing assets or where overdueshave crossed 60 days (SMA-II) are not eligible.
    • Companies that had loan dues up to 30 days (Special Mention Accounts or SMA-0) as on February 29, 2020, were being provided additional credit of 20 per cent outstanding under the scheme, which will now be given to SMA-1 accounts as well.
    • The government has recently extended the ECLGS till June 2021, as against March 31, 2021 earlier.

    About the ECLGS scheme:

    • The Finance Ministry unveiled a Rs. 20 Lakh Crore comprehensive package, known as the Emergency Credit Line Guarantee Scheme (ECLGS), in view of the economic distress caused by the COVID-19 pandemic.
    • This package is in aid of MSME sector, addressing working capital needs, operational liabilities and restart business impacted due the COVID-19 crisis.
    • Borrowers with up to Rs. 25 Crore outstanding as on Feb 29, 2020 and up to Rs. 100 Crore annual turnover for FY 2020 are eligible for this scheme.
    • Business Enterprises, MSMEs constituted as Proprietorship, Partnership, registered company, trusts and Limited Liability Partnerships (LLPs) shall also be eligible.
    • Borrower accounts which had NPA or SMA-2 status as on Feb 29, 2020 shall not be eligible under the scheme.
    • 20% of the total outstanding credit of borrowers can be sanctioned as a loan under the Guaranteed Emergency Credit Line (GECL), for those who having a loan as on Feb 29, 2020.

    Special Mention Accounts:

    • SMAs are those assets/accounts that shows symptoms of bad asset qualityin the first 90 days itself or before it being identified as NPA.
    • The classification of Special Mention Accounts (SMA) was introduced by the RBI in 2014, to identify those accounts that has the potential to become an NPA/Stressed Asset.
    • Logic of such a classification is because some accounts may turn NPA soon.
      • An early identification will help to tackle the problem better.
      • There are four types of Special Mention Accounts – SMA-NF, SMA 0, SMA1 and SMA 2.
    • The Special Mention Accounts are usually categorized in terms of duration.
    • For example, in the case of SMA -1, the overdue period is between 31 to 60 days.
      • On the other hand, an overdue between 61 to 90 days will make an asset SMA -2.
    • But some ‘Special Mention’ assets are identified on the basis of other factors that reflect sickness/irregularities in the account (SMA -NF).
    • In the case of SMA -NF, non-financial indications about stress of an asset is considered.

  • How IBC is moving away from promotor averse approach

    The Insolvency and Bankruptcy Code was amended recently taking into account its creditor centric approach.

    Introducing pre-packs for MSMEs

    • IBC was amended last week, through an ordinance.
    • The amendment sought to address a structural weakness in India’s resolution architecture by introducing the concept of pre-packs for micro, small and medium enterprises (MSMEs).
    • The pre-packaged framework involves a privately negotiated contract between the promoters of a financially distressed firm and its financial creditors to restructure the company’s obligations.
    •  This contract is negotiated within the IBC architecture but before the commencement of insolvency proceedings.
    • Once accepted by creditors, the plan must be presented to the National Company Law Tribunal (NCLT) for approval.

    How this framework is different from the existing framework

    • A firm’s promoters could have submitted a resolution plan even after it enters the insolvency proceedings, subject to restrictions imposed under Section 29A which clarifies all those who are ineligible for submitting the resolution plan.
    • So, the difference in the new framework essentially boils down to the following.

    1) Control of the firm

    • Under the IBC, upon the initiation of insolvency proceedings, control of a firm is taken away from promoters, and a resolution professional is appointed.
    • Now, during the restructuring, the promoter, through the pre-pack, retains control over the firm.
    • So effectively, we have transitioned from a “creditor-in-control” model of resolution to a “debtor-in-control” model of restructuring.
    • This amendment, which creates a framework for restructuring, without the promoter losing control over the firm, addresses a lacuna in the IBC.

    2) Issue of price discovery

    • In this arrangement, the is an absence of an open bidding process, such as during the resolution phase.
    • This might raise questions over price discovery, especially if value maximisation for creditors is the yardstick to measure the efficacy of IBC.
    • This marks a fundamental change in the IBC framework.

    Why the changes were needed

    • The IBC, while it has strengthened the position of the creditors, had swung to an extreme.
    • The resolution architecture as it stood prior to this amendment was perceived as being too creditor-centric.
    • Wresting control from the “errant” promoter, comes with its own set of consequences.
    • The notion that all business failure is due to the connivance of promoters needs to be reconsidered.
    • Firms may be unable to pay their obligations simply because the economic cycle has turned.
    • Or projects have not materialised as expected.
    • Of the 2,422 cases closed since IBC came into being, 46.5 per cent of the firms have gone into liquidation, while a resolution plan has been accepted in only 13.1 per cent of the cases.
    • This indicates liquidation bias.
    • At a time when there aren’t enough buyers in the economy, the IBC process would lead to significant value destruction.

    How it will benefit both creditor and promotors

    • Promoters get to hold on to their firms, and exit the process with more manageable obligations, making this an attractive proposition.
    • For creditors, considering the liquidation bias in IBC, as long as the value of the restructured obligation is greater than the liquidation value it makes sense to choose this option.
    • Moreover, this entire process remains outside the restructuring framework of the central bank.
    • And, considering that the pre-packs encompass all financial creditors, as opposed to RBI’s restructuring schemes which deal only with banks.
    • This takes into account the concerns of other financial creditors as well.

    Consider the question “How far IBC has succeeded in improving the insolvency regime in India? How the concepts of pre-packs is different from the previous system?

    Conclusion

    This approach will help clarify issues, bring about greater certainty to the process. And, once the creases are ironed out, it will create a permanent mechanism for restructuring debts.

  • [pib] E-SANTA: Electronic marketplace to connect Aqua farmers and buyers

    Union Commerce and Industry Ministry has inaugurated E-SANTA, an electronic marketplace providing a platform to connect aqua farmers and buyers.

    Note:

    Aquaculture also known as aquafarming is the farming of fish, crustaceans, mollusks, aquatic plants, algae, and other organisms. It involves cultivating freshwater and saltwater populations under controlled conditions, and can be contrasted with commercial fishing, which is the harvesting of wild fish.

    Mariculture commonly known as marine farming refers to aquaculture practiced in marine environments and in underwater habitats, opposed to in freshwater.

    E-SANTA

    • The term e-SANTA was coined for the web portal, meaning Electronic Solution for Augmenting NaCSA farmers’ Trade-in Aquaculture.
    • It will enable the farmers to get a better price and the exporters to directly purchase quality products from the farmers enhancing traceability, a key factor in international trade.
    • National Centre for Sustainable Aquaculture (NaCSA) is an extension arm of Marine Products Export Development Authority (MPEDA), Ministry of Commerce & Industry.
    • It will raise income, lifestyle, self-reliance, quality levels, traceability, and provide new options for our aqua farmers.
    • The platform will change the traditional way of carrying out business from a word of mouth basis to become more formalized & legally binding.

    E-SANTA will RAISE the lives & income of farmers by:

    1. Reducing Risk
    2. Awareness of Products & Markets
    3. Increase in Income
    4. Shielding Against Wrong Practice
    5. Ease of Processes

    Its’ utility

    • E-SANTA is a Digital Bridge to end the market divide and will act as an alternative marketing tool between farmers & buyers by eliminating middlemen.
    • It will revolutionize traditional aqua farming by providing cashless, contactless and paperless electronic trade platform between farmers and exporters.
    • It can become a tool to advertise collectively the kind of products the buyers, fishermen & fish producing organisations are harvesting.

    How does it work?

    • E-SANTA is a completely paperless and end-to-end electronic trade platform between Farmers and exporters.
    • The farmers have the freedom to list their products and quote their price while the exporters have the freedom to list their requirements and also to choose the products based on their requirements.
    • This enables the farmers and buyers to have greater control over the trade and enables them to make informed decisions.
    • The platform provides a detailed specification of each product listing and it is backed by an end to end electronic payment system with NaCSA as an Escrow agent.
    • After crop listing and online negotiation, a deal is struck, advance payment is made and an estimated invoice is generated.

  • An aggressive vaccination drive holds the key to economic revival

    The article highlights the challenges posed by the second wave of covid and how aggressive vaccination could help dealing with the issue.

    Severe second covid wave in India

    • India’s daily new cases have surged past 1,50,000, much above the first peak.
    • In India’s first wave, the increase from 50,000 to about 1,00,000 cases took about 50 days; in the second wave, it’s taken just 13.
    • To start with, the second wave was more concentrated, with Maharashtra accounting for 60 per cent of cases.
    • While the top five states still account for about 65 per cent of cases, the reproduction (R) factor in almost 10 states is estimated to be two or higher, creating risks for a wider and more rapid spread, if unaddressed.

    Lessons from the first wave

    • Policymakers, businesses and households have all learnt from the first wave and with the private sector better adapted to “live with the virus”.
    • Therefore, the economic costs should hopefully not be comparable to the first wave. Yet, they may not be trivial either.
    • The five states that account for 65 per cent of new cases also account for almost 36 per cent of GDP.
    • As virus cases have grown and restrictions have been imposed, retail and recreational mobility across these five states, is down 10 per cent since mid-March.
    • Labour market surveys have also begun to show discernable impacts on both participation and unemployment rates.

    Implications of unequal recovery for developing countries

    • The IMF projects India’s FY22 growth at 12.5 per cent, this would still leave India about 8-9 per cent below the level of output that was projected pre-pandemic for the end of 2021-22.
    • The challenge for emerging markets is that, given the quantum of fiscal and monetary space expended in combating the first wave, space to respond to subsequent waves will be constrained.
    •  Owing to the fiscal support and pace of vaccinations the US will be the only large economy, apart from China, to surpass its pre-pandemic path.
    • This, resulted in increased US yields, tightened global financial conditions, induced dollar strength and triggered
    • All this makes it harder for emerging economies to respond expansively to domestic shocks.
    • In effect, the heterogeneity of the recovery across developed and emerging markets is imposing policy constraints on the latter which, ironically, will simply compound the economic divergence.

    Challenges for India

    • India’s fiscal space to respond to a second wave appears constrained due to the following two factors:
    • 1) In India’s case, consolidated public debt will approach 90 per cent of GDP.
    • 2) The consolidated public sector borrowing requirements are budgeted above 11 per cent of GDP in FY22.
    • The dependence on budgeted asset sales has only increased, both as a hedge to tax revenues that could be impacted from a second wave, and as a means of protecting expenditures.
    • It will be equally crucial to leaving enough space for higher MGNREGA demand and other safety nets on account of a second wave, even while protecting capital expenditures — which generate large multiplier effects on the economy.
    • Similarly, monetary policy is already very accommodative, and with core inflation sticky and elevated, global deflationary pressures entrenched, there are natural limits to the degree of more monetary accommodation.

    Aggressive vaccination is the key

    • Israel, the UK and the US have all demonstrated how aggressive vaccinations can bend the COVID-curve.
    • Therefore, the Indian government’s decision to approve a third vaccine and fast-track emergency approval for foreign-produced vaccines is unambiguously positive.
    • On the demand side, of an estimated 100-110 million population of seniors (60-plus) in India, only about 40 million have taken the vaccine over the last six weeks, suggesting a reluctance to get vaccinated.
    • But, in fact, it’s crucial to ensure the vulnerable — those whose probability of hospitalisation is the highest — are fully vaccinated to reduce pressure on the health infrastructure.

    Consider the question “What are the challenges posed to the developing countries by heterogeneity of recovery across the developed and developing countries?

    Conclusion

    Vaccinations should be construed as simultaneously delivering both a positive demand and supply shock (for the economy), and a negative demand shock (for health infrastructure), thereby providing the best chance to decisively break the trade-offs between lives and livelihoods that bedevilled emerging markets all of last year.

  • Shaphari Scheme

    Commerce Ministry wants to build confidence in quality, antibiotic-free shrimp products from India for the global market.

    Shaphari Scheme

    • The Marine Products Exports Development Authority (MPEDA) has developed a certification scheme for aquaculture products called ‘Shaphari’, a Sanksrit word that means the superior quality of fishery products suitable for human consumption.
    • The Shaphari scheme is based on the United Nations’ Food and Agriculture Organization’s technical guidelines on aquaculture certification.
    • It will have two components — certifying hatcheries for the quality of their seeds and, separately, approving shrimp farms that adopt the requisite good practices.
    • The certification of hatcheries will help farmers easily identify good quality seed producers.
    • Those who successfully clear multiple audits of their operations shall be granted a certificate for a period of two years.
    • The entire certification process will be online to minimize human errors and ensure higher credibility and transparency.

    Bolstering confidence in India’s Shrimp production

    • To bolster confidence in India’s frozen shrimp produce, the country’s biggest seafood export item, the Centre has kicked off a new scheme called ‘Shaphari’ to certify hatcheries and farms that adopt good aquaculture practices.
    • Frozen shrimp is India’s largest exported seafood item.
    • But a combination of factors had hurt export volumes in recent months, including container shortages and incidents of seafood consignments being rejected because of food safety concerns.
    • Some recent consignments sourced from Indian shrimp farms being rejected due to the presence of antibiotic residue and this is a matter of concern for exporters.
    • The National Residue Control Programme for food safety issues in farm produce and pre-harvest testing system is already in place.
    • But this certification was proposed as a market-based tool for hatcheries to adopt good aquaculture practices and help produce quality antibiotic-free shrimp products to assure global consumers.

    Frozen shrimp export potential

    • Frozen shrimp is India’s largest exported seafood item. It constituted 50.58% in quantity and 73.2% in terms of total U.S. dollar earnings from the sector during 2019-20.
    • India exported frozen shrimp worth almost $5 billion in 2019-20, with the U.S. and China its the biggest buyers.
    • Andhra Pradesh, West Bengal, Odisha, Gujarat and Tamil Nadu are India’s major shrimp producing States, and around 95% of the cultured shrimp produce is exported.

  • Give small savers what is due to them

    The article highlights the issues with linking small savings interest rates with the yield on G-sec and its resetting on a quarterly basis.

    Issue of small savings interest rate

    • For decades, small savings have constituted an important source of household savings, funded development programmes of state governments and offered a safe and secure source of income to senior citizens.
    • Recently, a notification on reducing the interest rates on small savings schemes quickly made headlines and was rescinded after 12 hours.
    • For small savers, the pandemic turned into a triple whammy: Battling job losses, higher food prices and a sharp devaluation in the value of their savings and earnings thereof. 
    • Interest on the Senior Citizens’ Saving Scheme was cut to 7.4 per cent, effective from April 2020, from 8.7 per cent before,
    • This was done despite the Gopinath Committee had recommended the rates should never be revised more than 100 basis points in a single year.

    Linking small savings rate to G-sec yields

    • The suggestion to link small savings rates to G-Sec yields was first made in 2001 by Y V Reddy, then deputy governor of RBI.
    • Reddy committee suggested small savings rates should be reset once a year, allowing for a spread of up to 50 basis points.
    • Reddy’s recommendations were reiterated by his successor Rakesh Mohan.
    • The Gopinath Committee,  set up in 2009 gave its report in June 2011 and annual revisions in small savings rates linked to G-sec yields got underway effective April 2012.
    • In 2016, however, the government decided to reset them on a quarterly basis. 

    Why link small savings rate to G-sec yields

    • Such linking is premised on the argument that the money collected through these schemes is invested in central and state government securities. 
    • While the yield on the government securities progressively declined over time, small savings rates remained downwardly rigid.
    • This resulted in an asset-liability mismatch that threatened the viability of the NSSF.
    • It is also argued that people’s dependence on small savings schemes had significantly declined since formal banking had rapidly expanded.
    • Moreover, for those who used small savings as safety nets there were other alternatives such as old-age pension and other similar schemes.

    Issues with resetting rates on quarterly basis

    • All expert committees that examined the issue had strongly argued against resetting the rates on a quarterly basis.
    • The fear was it could result in unfair rewards for small savers in the event the G-sec yields remain artificially low for a certain period of time.
    • It did happen in the pandemic year when small savings rates faced the steepest cut in five years.
    • The changed policy on small savings is also premised on the belief that markets offer fair outcomes.
    • More often than not, that is not true.
    • The experience of the past year bears it out.
    • While retail inflation spiked, the RBI used every trick in its bag to hold G-sec yields down.

    Way forward

    • The government could go back to resetting the rates annually, keeping the revision under 100 basis points and allowing small savings rates a spread of at least 50 basis points, not up to 50 basis points, over and above the G-sec yields.
    • Also, it may revisit the suggestion made by the Rakesh Mohan Committee to use a weighted average of G-sec yields over preceding two years — two-thirds weight for the later year, one-third for the earlier year.

    Consider the question “What was the rationale for linking the interest rates on small savings to yield on G-sec? What are the issues with it?

    Conclusion

    Adopting the changes suggested here may require setting aside a few thousand crores to fill the resultant gap in the NSSF. But it is worth doing.

  • Production of Poppy Straw

    The Central government has decided to rope in the private sector to commence production of concentrated poppy straw from India’s opium crop.

    What is the move?

    • The move aims to boost the yield of alkaloids, used for medical purposes and exported to several countries.
    • Among the few countries permitted to cultivate the opium poppy crop for export and extraction of alkaloids, India currently only extracts alkaloids from opium gum at facilities controlled by the Revenue Department.
    • This entails farmers extracting gum by manually lancing the opium pods and selling the gum to government factories.
    • The Ministry has now decided to switch to new technologies after trial cultivation reports submitted last year by two private firms showed higher extraction of alkaloids using the concentrated poppy straw (CPS).

    Opium Poppy

    • The milky fluid that seeps from cuts in the unripe poppy seed pod has, since ancient times, been scraped off and air-dried to produce what is known as opium.
    • The seedpod is first incised with a multi-bladed tool.
    • This lets the opium “gum” ooze out.
    • The semi-dried “gum” is harvested with a curved spatula and then dried in open wooden boxes.
    • The dried opium resin is placed in bags or rolled into balls for sale.

    Why such a move?

    • India’s opium crop acreage has been steadily declining over the years.
    • The CPS extraction method is expected to help cut the occasional dependence on imports of products like codeine (extracted from opium) for medical uses.

    Amendments to NDPS Act

    • Uttar Pradesh, Rajasthan and Madhya Pradesh are the three traditionally opium-growing States, where poppy crop cultivation is allowed based on licences issued annually by the Central Bureau of Narcotics.
    • While roping in private players in producing CPS and extracting alkaloids from it is likely to require amendments to the Narcotic Drugs and Psychotropic Substances (NDPS) Act, 1985.
    • The Revenue Department has decided to appoint a consultant to help frame the bidding parameters and concession agreements for the same.

  • Government Securities Acquisition Programme (G-SAP)

    What is the first phase of operation?

    • The RBI has officially notified that it would conduct the first phase of G-SAP 1.0 operations on April 15, 2021.
    • It will begin with the purchase of five dated securities for an amount aggregating to Rs 25,000 crore.
    • The first phase of G-SAP purchase will happen using the multiple price method under which the bidders pay at the respective rate they had bid.
    • The RBI has notified four securities for the G-Sec purchase in different maturities.
    • In addition to the G-SAP plan, the RBI will also continue to deploy regular operations.
    • This would be under the LAF, longer-term repo/reverse repo auctions, forex operations and open market operations including special OMOs.
    • This is to ensure that the liquidity conditions evolve in consonance with the stance of monetary policy.

    What are the concerns?

    • Interest rates – For the Government, the RBI keeping the yield down is a good news because the overall borrowing costs go down.
    • But, the RBI artificially keeping the interest rates lower in the financial system has caused concerns.
    • In healthy economic system, the interest rates pricing should be driven by demand-supply.
    • It shouldn’t be artificially suppressed by the central bank; this might lead to distortions and have other consequences.
    • Savers – Cheaper rates will be good news to big, top rated companies who can issue bonds to raise money and to the government.
    • But low interest rates coupled with high inflation is a systemic worry for savers.
    • Already, savers are getting negative returns on their deposits if one takes into account the inflation adjusted rates or real rates.
    • Rupee – Government resorting to massive bond purchase to keep the rates low is not good news for the local currency.
    • The Indian Rupee, notably, came under pressure after the RBI announced the massive Rs 1 lakh crore bond purchase programme.
    • The fear of investors pulling capital out of India in a low interest environment is hurting the local currency.

     

  • A post-Covid fiscal framework for India

    The article highlights the failure of FRBM Act to contain India’s rising debt and suggests an alternative framework.

    Issues with the FRBM Act

    • Economic disruption caused by the COVID has prompted calls for a relook atthe Fiscal Responsibility and Budget Management Act (FRBM).
    • The introduction of the FRBM in 2003 reflected the belief that setting strict limits on fiscal deficits, both for the centre and the states, was the solution.
    • But this framework didn’t work.
    • Apart from the initial period, when growth was booming, the deficit targets were largely honoured in the breach, leaving the primary balance [Revenue-Non-intrest expenditure] essentially unchanged (Figure 2, phase 2).

    Debt has increased to record levels

    • India’s general government debt has soared.
    • It is now close to 90 per cent of GDP — the highest independent India has ever seen.
    • The debt ratio will come down naturally as GDP normalises.
    • Even so, on current policies, it is likely to exceed 80 per cent for the foreseeable future.

    Would such a high level of debt be sustainable?

    • Briefly, sustainability depends on two key factors:
    • 1) The primary balance (PB), revenue less non-interest expenditures.
    • 2) The difference between the cost of borrowing and the nominal growth rate (r-g).[interest-growth differential]
    • Debt does not explode when the primary balance is greater than the interest-growth differential.
    • In India’s case, PB has been negative as the government has run primary deficits.
    • But this has been counterbalanced over the past decade by favourable differentials, as interest rates have been lower than growth.
    • Hence, the broadly stable debt ratio.
    • This equilibrium has now been upset by the sudden increase in debt.
    • If the interest-growth differential consequently turns unfavourable, as occurred during the previous period of high debt in the early 2000s (Figure 2, phase 1), then debt sustainability could only be preserved by shifting the primary balance into surplus.
    • And this would not be easy.

    Why shifting primary balance intro surplus is not easy

    • Primary deficit of the Centre and states combined is typically about 3 per cent of GDP. [say PB is -3% of GDP]
    • So, shifting the primary balance into a modest surplus [i.e. turning PB from -ve to +ve] would require an adjustment of 4 percentage points of GDP.
    • But non-interest expenditure is only roughly 20 per cent of GDP.
    • If tax increases were ruled out, then a sudden adjustment would require non-interest spending to be cut by no less than 20 per cent (4 divided by 20 times 100).[20% of 20 is 4]
    • Clearly, this would be politically impossible.
    • But this would render India susceptible to panic and possibly even crises.
    • The government needs to eliminate the tension, undertaking a pre-emptive consolidation to prevent the need for a sudden adjustment.

    Strategy based on 4 principles

    • The government should start by defining a clear objective, based not on arbitrary targets but on sound first principles: It should aim to ensure debt sustainability.
    • To this end, the government could adopt a strategy based on four principles.

    1) Abandon multiple fiscal criteria

    • The current FRBM sets targets for the overall deficit, the revenue deficit and debt.
    • Such multiple criteria impede the objective of ensuring sustainability since the targets can conflict with each other,
    • This creates confusion about which one to follow and thereby obfuscating accountability.

    2) Don’t get fixated on specific number

    • Around the world, countries are realising that deficit targets of 3 per cent of GDP and debt targets of 60 per cent of GDP lack proper economic grounding.
    • In India’s case, they take no account of the country’s own fiscal arithmetic or its strong political will to repay its debt.
    • Any specific target, no matter how well-grounded, encouraging governments to transfer spending off-budget such as with the “oil bonds” in the mid-2000s and subsidies more recently.

    3) Focus on one measure for guiding fiscal policy

    • In this regard, Arvind Subramanian and Josh Felmanwe propose targeting the primary balance.
    • This concept is new to India and will take time for the public to absorb and accept.
    • But it is inherently simple and has the eminent virtue that it is closely linked to meeting the overall objective of ensuring debt sustainability.

    4) Don’t set yearly target for the primary balance

    • The Centre should not set out yearly targets for the primary balance.
    • Instead, it should announce a plan to improve the primary balance gradually, by say half a percentage point of GDP per year on average.
    • Doing so will make it clear that it will accelerate consolidation when times are good, moderate it when times are less buoyant, and end it when a small surplus has been achieved.
    • This strategy is simple and easy to communicate; it is gradual and hence feasible.

    Consider the question “Despite the FRBM framework India’s debt level have touched a historic high. In light of this, examine the reasons for the failure of FRBM in controlling the debt level and suggest the way forward to make India’s debt level sustainable.”

    Conclusion

    COVID has upended India’s public finances. It is time to learn from past experience and adapt. Adopting a simple new fiscal framework based on the primary balance could be the way forward.