Fiscal rules and debt dynamics in India

ABSTRACT

Using an accounting framework, I examine the evolution of national and sub-national public debt in India from 1981 to 2017, with reference to the FRBM Review Committee Report, which stipulates the debt targets at 60% and 20%, respectively. I find that a larger share of debt movement is explained by changes in interest rate, growth and inflation, than by accumulation of new debt, for both national and sub-national debt. Simulations show that a strict perusal of the debt targets will force the government to run surpluses, while relaxing the targets generates fiscal space up to 4% of the GDP.

KEYWORDS:

• Fisher dynamics
• debt sustainability
• fiscal rules
• accounting framework

JEL classification:

• H60
• H62
• H63
• H68
• E62
• E63

Acknowlegdements

I would like to thank the two anonymous referees, whose comments have significantly helped improve this paper. I am very grateful to Prof. Arjun Jayadev for his guidance, and thank Ramchandar K. and Ellendula Saroja for their help with coding. All errors remain my own.

Disclosure statement

No potential conflict of interest was reported by the author(s).

Notes

1. The European Union drafted a series of ‘convergence criteria’, which refer to certain targets member countries had to agree to hit, in order to maintain price stability, sound public finances, and exchange rate stability. Under these criteria, members had to agree to not let the government debt-to-GDP ratio exceed 60%.

2. When the debt ratio is small, the first term in the equation is relatively smaller to the primary balance, while it is relatively larger to the primary balance when the debt ratio is large.

3. Naturally, it follows that λ + τ = 100%. However, this does not mean that the values of λ and τ, are lesser than 100%. For example, if a state runs a primary surplus over a time period, then the change in primary deficit will be negative, and thus λ < 0, and hence, λ > 100.

4. In Figure 4, the state debt stock is normalized by GDP, to track their debt trajectory with reference to the FRBM Committee target of 20%, for all Indian states. In Figure 5, I normalize the stock by GSDP instead of GDP, as I am exploring the case where the chosen sample states target 20% of their combined debt stock.

5. A positive sign means surplus, and negative, deficit.

6. For example, if the current debt level is 50%(b₀), the government wants to reduce it 40%(b_n) in 10 years(n) and i varies from 3–5% and g varies from 7–9%. If i = 4.7% and g = 7.9%, then plugging these values in the formula will yield d_n = −0.008, which is the minimum primary balance the government will have to maintain for 10 years to get to the desired target.

Additional information

Notes on contributors

Advait Moharir

Advait Moharir is a Research Assistant at Azim Premji University. He is currently working on the CORE Project, helping develop materials for a economics textbook being written for the South Asian context. His interests lie in the fields of macroeconomics, monetary economics and public finance.