India Needs To Grow Its Way Back To A Sustainable Debt Path
India’s debt as a percentage of its nominal gross domestic product, already higher than most peer economies, is set to widen further as the government’s borrowings rise at a faster rate than GDP.
That rising debt-to-GDP ratio and lack of clarity on how quickly it will come down to more comfortable levels may prove to be a bigger concern for the country’s sovereign rating than just the fiscal deficit ratio for the ongoing year.
Estimates suggest that India’s debt-to-GDP may inch towards 80 percent.
Ratings agency Moody’s Investors Service pegs it at 80.5 percent in FY21 compared to 72.3 percent in FY20, according to a note dated May 7. Fitch Ratings estimates it at 77 percent this year. A further increase in this ratio will mean wider gap between India and other countries rated in BBB category. The median debt for BBB-rated sovereigns is at about 42 percent.
India’s sovereign debt-to-GDP ratio is also now higher than most emerging markets, Credit Suisse said in a report dated May 13. With barely any GDP growth this year, debt-to-GDP is likely to rise substantially in India, Neelkanth Mishra, India equity strategist at Credit Suisse, said in the report.
It is this increase that could possibly become a trigger for a reassessment on India’s ratings, cautioned Nomura Global Market Research, which expects the debt-to-GDP ratio to rise to 75-80 percent this year.
A Long Road Back
Should the debt-to-GDP ratio rise to near about 80 percent, the road to bringing it back down to sustainable levels will be a long one.
The NK Singh Committee, which reviewed India’s Fiscal Responsibility And Budget Management Act in 2017, had suggested using the debt-to-GDP ratio as the primary target for fiscal policy. It had recommended that the ratio, which stood at 70 percent in 2017, be brought down to 60 percent by 2023.
If India’s debt-to-GDP rises to near about 85 percent, it could take nearly 10 years to bring it back down by 10 percentage points if the nation sees nominal growth of over 10 percent, Mishra said in his report. Slower growth would drag out the process.
Debt-to-GDP sustainability depends on the denominator as much as it does on the numerator. If primary deficit is maintained close to zero (0.4 percent of GDP each currently at centre and state), lower rates can help substantially. But the trajectory changes meaningfully with growth; that has to be the top priority for the government.Neelkanth Mishra, India Equity Strategist, Credit Suisse
Equally, higher borrowing costs would mean a longer trajectory of bringing down the country debt-to-GDP ratio.
Contingent Liabilities Also Rising
It is not just direct government debt which is estimated to rise. India’s contingent liabilities, which include guarantees by the government, are also set to rise.
As part of a Rs 20-lakh-crore economic support package, the government has decided to provide 100 percent guarantee to Rs 3 lakh crore in SME loans. This will mean a sharp rise in the guarantees provided in FY21.
According to budget documents, the government provided Rs 77,727.8 crore in guarantees in FY19 and Rs 52,518 crore in guarantees until Jan. 10, 2020.
The FRBM Act prescribes a ceiling of 0.5 percent of GDP for incremental guarantees in a year. In FY19, new government guarantees amounted to 0.41 percent of GDP. They were estimated at 0.25 percent of the budget in FY20.
For this year, this target will be breached.
Like in other years, this year, too, the government will guarantee several other loans apart from the MSME loans, said Govinda Rao, chief economic adviser at Brickwork Ratings, who was a member of the Fourteenth Finance Commission. In order to ensure that crystallisation of these guarantees does not hit the government suddenly, a certain amount of funds is set aside in the “Guarantee Redemption Fund”, Rao said. The government, however, may not need to make these provisions immediately, he said.
As per Nomura, other contingent liabilities, such as any additional recapitalisation needs for government-owned banks, could also add up during the course of the year.