Ramesh Singh Summary: Public Finance in India- 3

Table of Contents
1. Public Debt
2. Independent Debt Management
3. Central Government Finances
4. Central Transfers to States
5. State Finances
6. General Government Finances
7. Outlook for future
8. Key definitions and fiscal indicators
9. Summary
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Public Debt

Public debt refers to the liabilities of government arising from borrowings contracted against the Consolidated Fund of India and, in a broader sense, the liabilities recorded in the Public Account of India. It is important to distinguish the types and constitutional provisions that govern borrowing by different tiers of government in India.

• Constitutional provisions: The Union Government is empowered to borrow both domestically and externally to the extent authorised by Parliament (Article 292). State Governments are, in general, permitted to borrow only within the country (Article 293).
• Composition of Central public debt: For analytical and reporting purposes, the Central Government's liabilities are usually classified into three segments: Internal liabilities, External liabilities, and Public Account liabilities. When referring specifically to the public debt of India, the focus is typically on the Central Government's internal and external liabilities.
• Internal vs External liabilities: Internal liabilities are borrowings in domestic currency from markets, banks, post offices and small-savings instruments. External liabilities are borrowings and obligations denominated in foreign currency or owed to foreign creditors.
• Public Account liabilities (distinction): Liabilities in the Public Account represent transactions where the government acts as a banker or trustee (for example, provident funds, small savings collections held on behalf of depositors). These are not normally used to finance the Central Government's fiscal deficit and are therefore accounted separately in many analyses.
• Adjusted debt (introduced in 2010): The Government introduced the concept of adjusted debtto present a clearer picture of liabilities by adjusting for certain items. Adjusted debt modifies headline debt by:
  • factoring in the rupee value of external debt at current exchange rates;
  • netting out balances such as the Market Stabilisation Scheme (MSS) and parts of the National Small Savings Fund (NSSF) that were not used to finance the Central Government deficit;
  • for general government debt calculations, netting out short-term overlap items such as 14-day T-bill investments made by States and Central loans to States to avoid double counting.

Independent Debt Management

Reforms to the institutional framework for debt management have been proposed repeatedly to improve cost-effective borrowing and improve coordination between fiscal and monetary policy.

• Proposal for a Public Debt Management Agency (PDMA): The idea of an independent public debt management agency outside the Reserve Bank of India's direct remit was raised in the Union Budget and has been discussed since. The instrumentality aims to professionalise and consolidate debt management functions.
• Objections and debate: The Reserve Bank of India (RBI) raised concerns when the proposal was first mooted. Typical issues cited by the RBI and other stakeholders include the need for close coordination between debt management and monetary policy, the risk of fragmented market access, and transitional arrangements for the management of legacy stock.
• NITI Aayog and later advocacy: By By recent years, NITI Aayog and other policy voices again endorsed an independent debt management office, arguing it would allow the Government to focus on long-term debt strategy, reduce borrowing costs through better-timed and structured issuance, and clarify institutional responsibilities.
• Potential benefits and challenges: A separate debt management office could improve yield-curve management, diversify the investor base, and enhance transparency in borrowing strategy. The principal challenge remains ensuring strong coordination with the RBI so that monetary operations, liquidity management and debt issuance remain consistent and efficient.

Central Government Finances

The Central Government's debt liabilities include borrowings contracted against the Consolidated Fund of India (classified as public debt) and certain liabilities recorded in the Public Account. Reporting and analysis routinely exclude those portions of Public Account liabilities that do not finance the Central deficit.

• Included liabilities: All borrowings against the Consolidated Fund (market loans, dated securities, treasury bills), and external borrowings are treated as Central public debt.
• Exclusions in central debt accounting: Certain NSSF liabilities are excluded to the extent they represent funds mobilised from States or investments made by the NSSF that do not finance the Central Government's deficit.

Central Transfers to States

Transfers from the Centre to States are a crucial instrument of fiscal federalism and significantly affect sub-national fiscal space.

• Role of Finance Commissions: Periodic Finance Commissions determine tax devolution shares and grants-in-aid. Recent commissions have played a significant role in strengthening state finances through enhanced devolution.
• 14th Finance Commission reforms: The 14th Finance Commission (award period 2015-20) made far-reaching changes by increasing the share of tax devolution to States, thereby enlarging state resources and enhancing fiscal federalism.
• Trend in transfers: Total transfers from Centre to States have risen in absolute terms, reaching over ₹20 lakh crore in recent years, though as a percentage of GDP they remain around similar levels (depending on definitions and items included).

State Finances

States face constrained fiscal headroom despite enhanced transfers because increased responsibilities, policy decisions and cyclical pressures affect their revenue and expenditure profiles.

• Fiscal glide path and pressures: Many States have been on a prescribed fiscal consolidation path under state-level FRBM-like statutes, but face pressures from falling tax revenues, policy decisions such as farm loan waivers, and direct income-support measures.

Key elements of the fiscal picture:

• Tax and non-tax revenue: Combined State own tax revenue has shown steady growth in recent years, while own non-tax revenue has grown at a relatively moderate pace compared with tax revenue.
• Expenditure profile: Total expenditure has continued to grow, led largely by revenue expenditure, while capital expenditure growth has remained comparatively modest.
• Fiscal path and deficit targets: States continue to aim at fiscal consolidation, with the combined gross fiscal deficit generally remaining around 2.5 3 per cent of GDP.
• Pattern of deficit financing: Over time, States have become more reliant on market borrowings to finance fiscal deficits, with market borrowings constituting a dominant share of deficit financing.
• Debt-to-GDP ratio and causes of rise: The debt-to-GDP ratio of States has remained elevated in recent years (around mid-20s per cent of GDP), due to factors such as issuance of UDAY bonds, farm loan waivers, and increased expenditure commitments including pay revisions.
• Borrowing ceiling: The borrowing limit for States continues to be broadly anchored around a 3 per cent fiscal deficit target, with flexibility provided under certain conditions.
• Additional borrowing window: The Centre has, in recent years, provided additional borrowing space to States subject to reforms and specific conditions, allowing them to exceed the standard fiscal deficit ceiling within defined limits.

General Government Finances

The fiscal position of the general government (Centre plus States) is influenced by the fiscal management of both tiers. Deterioration in state finances feeds into overall fiscal outcomes.

• Combined fiscal consolidation: The general government continues to pursue fiscal consolidation, with the fiscal deficit remaining around 5.5-6 per cent of GDP in recent years.

• Combined liabilities: Despite consolidation efforts, combined liabilities of the Centre and States have remained elevated at around 80-85 per cent of GDP in recent years.

Outlook for future

The fiscal outlook remains influenced by global and domestic risks. Several variables continue to shape the fiscal position of the Centre and States.

• Global slowdown and trade tensions: Weak global growth, evolving trade dynamics and protectionist tendencies continue to affect external demand and indirectly impact government revenues.
• Domestic slowdown and revenue risks: Fluctuations in domestic economic growth affect tax buoyancy. Lower or uneven revenue collections constrain the ability of the government to pursue expansionary fiscal action without affecting debt sustainability.
• Need for counter-cyclical measures: To sustain growth and demand, timely and effective counter-cyclical fiscal measures are required, though such measures are constrained when revenue growth is uncertain.
• Tax collection trends and GST: The revenue performance of the Goods and Services Tax (GST) remains a key determinant of resource availability for both the Centre and States.
• Expenditure rationalisation: Rationalising subsidies-especially food and fertiliser subsidies-continues to be an important avenue to create fiscal space for productive expenditure.
• Finance Commission recommendations: Recommendations of the Finance Commission continue to have significant implications for Centre-State fiscal balances, particularly through tax devolution and grants.
• Geopolitical risks and oil prices: Geopolitical developments-particularly in West Asia-continue to influence crude oil prices, affecting subsidy burdens and the current account balance.
• Pandemic and post-pandemic impact: The shock of COVID-19 had lasting effects on global and domestic economic activity, leading to higher expenditure needs, revenue uncertainty, and a reassessment of fiscal priorities.

Key definitions and fiscal indicators

• Fiscal deficit: The fiscal deficit is the excess of the government's total expenditure (including debt interest and capital outlay) over its total receipts (excluding borrowings). It indicates the total borrowing requirement of the government in a year.
• Primary deficit: The primary deficit equals the fiscal deficit minus interest payments. It indicates the extent to which current receipts (excluding new borrowings) fall short of current expenditures excluding interest cost.
• Debt-to-GDP ratio: This ratio expresses the stock of public debt as a percentage of nominal GDP. It is a key indicator of debt sustainability: higher ratios imply larger interest and principal repayment burdens relative to the size of the economy.
• Market borrowings vs. internal transfers: Financing government deficits through market borrowings typically implies interest costs determined by market yields, while financing through instruments like small savings and NSSF involves administratively determined rates and implications for inter-governmental flows.

Summary