The creeping concerns over India’s debt

Synopsis: Recently, the Supreme Court directed the Centre to formulate guidelines for providing compensation under the Disaster Management Act.

Background

In response to SC directions, the Solicitor general made an argument, which underlines the government’s inability to comply due to the tight revenue situation amid the growing demand for resources.

Why the fear of downgrading credit rating is overrated?

Former chief statistician Pronab Sen said the government’s plan to have a medium-term fiscal consolidation roadmap as recommended by the 15th Finance Commission should be junked until covid is no longer a threat.

• A rating downgrade will impact mostly the small foreign investors who may withdraw their money.
• Large investors depend on their own research and don’t rely only on input from credit rating agencies.
• Any effort to make that correction when GDP growth is low would mean the brunt of the adjustment will be on expenditure.
• It will lead to an unstable situation.

Why the government did not choose to provide compensation to COVID victims?

• Economic contraction: 3% contraction in the nominal gross domestic product (GDP) and 7.7% decline in revenue receipts in 2020-21.
• Increase in debt and fiscal deficit: The Union government’s debt soared to 58.8% of the gross domestic product (GDP) in 2020-21, a 14-year-high.
• Ensuring credit availability: the government has primarily focused liquidity support to distressed sectors, apart from free food grains.
• Fears around a ratings downgrade: It has both direct and indirect effects on the economy.
  • S&P, on 14 July, reaffirmed India’s sovereign rating at the lowest investment grade (BBB-) with a stable outlook.
  • The other two key rating agencies, Fitch and Moody’s, have the lowest investment-grade sovereign rating for India with a negative outlook.
  • The latest Economic Survey admitted that ratings not reflecting fundamentals.
  • But pro-cyclical action by rating agencies can affect equity and debt foreign portfolio investor (FPI) outflows from developing countries.
• Fiscal conservatism: The government chose more supply-side interventions instead of providing a strong fiscal stimulus to revive consumer sentiment and demand.
• No multiplier effect: As per CEA, the problem with the unconditional transfer is evident in the “disastrous” farm loan waivers of 2009. Whereas, there was very little impact on consumption wasted taxpayers’ money.
• Rising cost of debt financing: high public debt can entail higher debt servicing requirements, which undermines the proportion of revenue that the government can allocate to social spending.

Way forward:

• India needs consistent strong nominal GDP growth with smaller fiscal deficits.
• Improve the efficiency of public spending.
• Strengthening domestic revenue mobilization to help widen fiscal space and bolster policy credibility.