Public Debt Management

WHY IN NEWS?

• The Central Government today released the Tenth and Eleventh Edition of the Status Paper on the Government Debt.
• It provides a detailed analysis of the overall debt position of the government.

WHAT CONSTITUTES PUBLIC DEBT?

• As the government's revenue from taxes and other sources fall short of its spending requirements, the government resorts to borrowings from markets and external sources.
• The Central Government Debt includes all liabilities of Central Government contracted against the Consolidated Fund of India (defined as Public Debt), and liabilities in the Public Account, called Other Liabilities.
• Public debt is further classified into internal and external debt.
  • Internal debt consists of marketable debt and non-marketable debt.
    • Marketable debt comprises of Government dated securities and Treasury Bills, issued through auctions.
    • Non-marketable debt comprises of intermediate Treasury Bills (14 days ITBs) issued to State Governments/UTs of Jammu & Kashmir and Puducherry as well as select Central Banks, special securities issued against small savings, special securities issued to public sector banks/EXIM Bank, securities issued to international financial institutions, and compensation and other bonds.
• Other liabilities include liabilities on account of State Provident Funds, Reserve Funds and Deposits, Other Accounts, etc.

STATISTICS:

• As per the ninth edition of ‘Status Paper on the Government Debt 2021’:
  • Central Government total net liabilities stood at 59.2 per cent of GDP at 2021.
  • General Government Debt (GGD)-GDP ratio >> 87.8 per cent at 2021
  • Of the Central Government total net liabilities 94.7 per cent were denominated in domestic currency while sovereign external debt constituted 5.3 per cent

SALIENT FEATURES OF GOVERNMENT DEBT IN INDIA:

• Low currency risk:
  • Of the Central Government total net liabilities >> 94.7 per cent were denominated in domestic currency while sovereign external debt constituted 5.3 per cent >> implying low currency risk.
• Insulated from volatility in the international capital markets:
  • Further, the sovereign external debt is entirely from official sources, which insulates it from volatility in the international capital markets.
• Insulated from interest rate volatility:
  • Public debt in India is primarily contracted at fixed interest rates, with floating internal debt constituting only 1.7 per cent of GDP at 2021.
  • The debt portfolio is, therefore, insulated from interest rate volatility, which also provides stability to interest payments
• Investor base is diversifying:
  • The investor base as evident from the ownership pattern of dated securities indicates a gradual diversification and widening of market over time.
  • Commercial banks remain the dominant investor class with a share of 37 per cent.
  • It is followed by Insurance Companies and Provident Funds
• Elongated maturity period:
  • It has been the endeavour of the Government to elongate the maturity profile of its debt portfolio with a view to reduce the roll-over risk.
  • The weighted average residual maturity of outstanding dated securities at end-March 2021 was 11.31 years with the tenure of the longest security being 40 years.
  • Active debt management operations in the form of switches/conversions also help to elongate the maturity profile, while also reducing the roll-over risk

SIGNIFICANCE OF MANAGING PUBLIC DEBT:

• Affects investor confidence:
  • Due to higher debt burdens there is an increased risk of default which downgrades the sovereign credit ratings by the credit rating agencies >> This impacts investor confidence, reducing FDI/FII in India, and makes future borrowing expensive.
• Impacts fiscal capabilities of the government:
  • As borrowing increases, the government has to pay more interest rate payments to bondholders >> This can lead to a greater percentage of tax revenue going to debt interest payments.
• Crowding out effect:
  • As more money is lent to the government rather than invested in the market, corporate sector is crowded out leading to slower industrial and capital asset growth and potential loss of employment.
• Fiscal repression of commercial banks:
  • When the government borrows more, it forces Public Sector Banks to purchase more of Government Securities (GSecs) which reduces the capital availability to the private sector and affects profitability of the banks.
• Inflationary pressure:
  • High debt can force governments to print money and thus lead to inflation and reduction in real interest rates.
• Exchange rate risk:
  • The reduced demand of domestic securities relative to foreign securities (due to poor credit rating) might push the exchange rate down and weaken the domestic currency.
• Higher taxes in the future:
  • If the debt to GDP rises rapidly, the government may need to increase taxes and/or limit spending to reduce debt levels in the future.
• Vulnerability to volatile international capital markets:
  • High share of external debt exposes economy to capital flight.

GOVERNMENT INITIATIVES TO MANAGE PUBLIC DEBT:

• Public Debt Management Agency (PDMA):
  • A dedicated statutory agency to manage India's external and domestic debt under one roof
• Fiscal Responsibility and Budget Management Act:
  • The primary objective was the elimination of revenue deficit and bringing down the fiscal deficit.
  • The other objectives included:
    • Introduction of a transparent system of fiscal management within the country
    • Ensuring equitable distribution of debt over the years
    • Ensuring fiscal stability in the long run
• NK.Singh Committee to review the FRBM Act:
  • Debt to GDP ratio:
    • It recommended that the debt-to GDP ratio should be 40% for the Centre and 20% for the States, respectively, by 2023.
    • It said that the 60% consolidated Central and State debt limit was consistent with international best practices, and was an essential parameter to attract a better rating from the credit ratings agencies.
  • Revenue deficit:
    • Committee recommended that revenue deficit should be reduced to 0.8% of GDP by March 31, 2023.
  • Fiscal deficit target:
    • Fiscal deficit should be reduced to 2.5% of GDP by March 31, 2023. T
• Debt Management Strategy (DMS) by the RBI:
  • RBI act as agent of the government to implement the borrowing programme and it draws necessary statutory powers for debt management from Section 21 of the Reserve Bank of India Act, 1934
  • The objective of the debt management strategy (DMS) is to secure the government's funding at all times at low cost over the medium /long-term while avoiding excessive risk
  • The DMS has been articulated in medium-term for a period of three years and it may be reviewed annually and rolled over for the next three years.
  • DMS of RBI involves the following pillars:
    • Low cost:
      • Elongating maturity profile of the debt portfolio.
      • Rationalisation of interest rates on small savings schemes and other instruments like PF, special securities, etc. in line with the interest rates prevailing in the economy.
    • Risk mitigation
      • Setting benchmarks for certain indicators such as share of short term debt and external debt, Floating Rate Debt etc. to ensure minimal risk in terms of Roll-over Risk and risks associated with movement in interest rates and exchange rates.
      • For example: share of short-term debt should be maintained within 10 per cent of total outstanding Marketable Debt stock with a leeway of ± 3 per cent.
    • Market development:
      • Maintaining transparency in the market borrowing programme
      • Conducting regular investor interaction and consultations with other stakeholders
      • Issuing a variety of instruments to help investors manage their portfolio more efficiently.
      • Supporting development of domestic investor base and calibrated opening of the Government securities market to foreign investors

PRACTICE QUESTION:

Q. “Fiscal activism embraced by advanced economies is not relevant for India”. Critically Analyse