IMF WORKING PAPER

c 1991 International Monetary Fund

WP/91/72

This is a working paper and the author would welcome any

comments on the present text. Citations should refer to an
unpublished manuscript, mentioning the author and the
date of issuance by the International Monetary Fund. The
views expressed are those of the author and do not necessarily represent those of the Fund.

INTERNATIONAL MONETARY FUND

F i s c a l A f f a i r s Department
The Growth of Indian Public Debt-Dimensions of the Problem and Corrective Measures
Prepared by Raja J . Chelliah 1/
Authorized for D i s t r i b u t i o n by Vito Tanzi
July 1991

Abstract
This paper traces the causes of the rapid growth of India's public
debt, with special reference to internal debt. I t then demonstrates
that the growth of debt would become unsustainable by the end of the
1990s i f the present trends continue. I t develops a methodology to
i t e r a t e the path of growth of debt to discover the sustainable l e v e l of
the primary d e f i c i t . F i n a l l y , i t suggests concrete measures to bring
down the primary d e f i c i t .

JEL C l a s s i f i c a t i o n Number

H63

1/ The main part of this paper was written while Professor Raja J .
Chelliah of the National Institute of Public Finance and Policy
(NIPFPO), New Delhi, India, was a V i s i t i n g Scholar at the F i s c a l A f f a i r s
Department of the International Monetary Fund. The basic data were
collected at the Institute at New Delhi, where revisions were also
carried out. Help i n gathering and codifying data from R.D. Gupta and
computational assistance from K.K. A t r i (both of NIPFP), and further
computational assistance in making projections from J . Brondolo of FAD,
as well as from K.K. A t r i are g r a t e f u l l y acknowledged. Thanks for useful comments are due to Vito Tanzi, Jocelyn Horne, Anupam Basu, Shankar
Acharya, and Susan Schadler. The author i s responsible for any errors
that remain.

- ii -

Contents
I.

Page

Introduction

1.
2.
3.
4.
5.

1
2
3
5

6.
7.
8.
9.
10.

Objectives
Definition of public debt and d e f i c i t
Coverage and assumptions
The public debt position i n the base year (1989/90)
Growth of public debt--1990/91 through 2000/01:
Assumption I
Debt dynamics and related conceptual issues
Growth of debt--scenario under Assumption I I
Maintaining a constant proportion of primary
d e f i c i t to GDP
Measures to reduce the primary d e f i c i t ratio
A suggested accounting framework for appraisal
of long-term f i s c a l stance

7
18
24
26
30
39

Text Tables
1.
2.
3.
4.
5.
6.
7.
8.
9.
10.
11.
12.
13.
14.

India: The Level of Debt and i t s Composition

India: Projection of the Growth of Debt to GDP
Under Assumptions I and II
India: Growth of Interest on Public Debt
Under Assumptions I and II
India: Gross Interest Payments on Total Debt
as Percent of Gross Central Government Revenue
India: Ratio of Borrowing (Domestic and Total)
to GDP Under Assumptions I and II
India: Net Interest Payments on Total Debt as
Percent of Net Central Government Revenue
India: Average Interest Rate on Total Debt
India: Net Domestic Borrowing as a Percent of
Gross Domestic Savings
India: Primary Deficit as a Percent of GDP
India: Simulated Debt:GDP Ratio
India: Simulated Debt:GDP Ratio
India: Simulated Debt:GDP Ratio
India: Growth in Revenue Expenditure of the
Central Government
India: U t i l i z a t i o n of Capital Receipts

6
8
9
11
12
13
14
16
25
28
29
31
33
37

Appendix Table
15.
Appendix

Chart I.
References

India: Decomposition of Growth in the Debt of Central

Government

43

Decomposition of Growth in the Debt of Central

Government

42

Debt:GDP Ratio

44
45

- iii -

Summary

This paper examines public debt i n India and concludes that i f present
trends of borrowing by the Government of India continue, the country w i l l
plunge into f i n a n c i a l c r i s i s by the end of the 1990s. I t analyses the
causes of the growth of debt by tracing trends i n the t o t a l f i s c a l d e f i c i t
and i n the primary d e f i c i t . In the base year 1989/90, the primary d e f i c i t
was nearly 4 percent of GDP, while the t o t a l d e f i c i t was taken to be 7.6
percent. On the basis of a number of conservative (favorable) assumptions
and using a simple p r o j e c t i o n methodology, the analysis demonstrates that
maintaining the primary d e f i c i t even at a l e v e l of 3.5 percent i s unsustainable because t h i s would raise the debt-to-GDP r a t i o to 77.4 percent i n
2000/01 from 60.2 percent i n 1989/90, and the deficit-to-GDP r a t i o to nearly
10 percent. Interest payments would then absorb 6.4 percent of GDP, casting
an unbearable burden on the budget.
The paper shows that the f i r s t stage of f i s c a l adjustment should
consist of measures to enable the Government to reduce the primary d e f i c i t
to 2.5 percent of GDP by the year 2000/01. I f t h i s i s done, the growth of
public debt w i l l slow and the t o t a l d e f i c i t w i l l be contained around 8 percent of GDP i n 2000/01.
In order to reduce the primary d e f i c i t to 2.5 percent of GDP, steps
must be taken to reduce the d e f i c i t on the budget's revenue account to
take much of the financing of the public enterprises out of the budget,
to s t a b i l i z e the rate of c a p i t a l formation on government account, to raise
the return on government lending and investment, and to increase the income
e l a s t i c i t y of taxes through tax reform. Given the waste and slack i n
Government, and i n view of c e r t a i n u n j u s t i f i a b l e subsidies, expenditure
reduction should be emphasized more than tax increases. Three steps are
needed: narrowing the scope of government a c t i v i t i e s , freezing government
employment, and c u t t i n g subsidies. To reduce c a p i t a l expenditure, the
Government should p r i v a t i z e public enterprises and close down or s e l l
i n e s s e n t i a l loss-making ventures, while compensating or r e h a b i l i t a t i n g the
workers who w i l l be displaced. F i n a l l y , the Planning Commission's approach
of approving the growth of expenditure within a five-year horizon without
regard to how the higher expenditure w i l l be sustained i n the future, must
be abandoned.
Once the f i r s t stage of adjustment i s completed, loan finance should be
largely l i m i t e d to c a p i t a l expenditures, whose benefits could be spread over
a number of years. The paper ends by suggesting an accounting framework
that would help regulate and evaluate the role of debt i n government
finance.

I.
1.

Introduction

Qbjectives

The u n i n t e r r u p t e d and r a p i d growth of p u b l i c debt i n I n d i a during

the 1980s i s only a m a n i f e s t a t i o n of the deepening f i s c a l c r i s i s that
has overtaken the country. E a r l i e r on, most Indian economists had held
that the growth of p u b l i c debt i n "planned" magnitude was normal and
d e s i r a b l e i n a developing country s i n c e government borrowing represented
the a b s o r p t i o n by the Government of a part of domestic savings and of
the i n f l o w of c a p i t a l from abroad, to finance and promote c a p i t a l format i o n i n the p u b l i c s e c t o r and p r i o r i t y areas i n the p r i v a t e s e c t o r .
The
r a t h e r complacent a t t i t u d e to government budget d e f i c i t ( i n the broad
sense) and the r e s u l t a n t growth i n p u b l i c debt was based on the assumpt i o n s that borrowed funds would be used only f o r c a p i t a l purposes and
that the r e s u l t a n t investments would yet y i e l d adequate d i r e c t or
i n d i r e c t r e t u r n s . The assumptions were o f t e n not f u l f i l l e d i n p r a c t i c e .
The manner i n which c a p i t a l funds from the domestic p r i v a t e s e c t o r were
r a i s e d and i t s impact on the a l l o c a t i o n of resources a l s o have not been
adequately s t u d i e d and taken note o f . The f i s c a l c r i s i s and the a t t e n dant e x p o n e n t i a l growth of p u b l i c debt has a r i s e n , not merely because of
revenue expenditures running ahead of current revenues, but a l s o because
c a p i t a l expenditures financed by borrowing have not been p r o d u c t i v e of
adequate r e t u r n s .
P u b l i c debt has grown very f a s t d u r i n g the 1980s--both a b s o l u t e l y
and i n r e l a t i o n to GDP.
The t o t a l debt of the C e n t r a l and s t a t e governments 1/, a c c o r d i n g to budgetary f i g u r e s , grew from Rs 215.77 b i l l i o n at
the end of 1970/71 to Rs 663.51 b i l l i o n at the end of 1980/81.
From
t h i s l e v e l , i t grew r a p i d l y to Rs 2,637.58 b i l l i o n at the end of
1988/89. As a p r o p o r t i o n of GDP, t h i s meant a f a l l from 50 percent at
the end of March, 1971, to 48.9 percent at the end of 1980/81, and then
a r i s e to 67.4 percent at the end of 1988/89. Of the t o t a l p u b l i c debt
( c e n t e r and s t a t e s ) , e x t e r n a l debt accounted f o r Rs 252.30 b i l l i o n or
9.57 percent of the t o t a l at the end of 1988/89.
The debt of the Government of I n d i a (GOI) grew from Rs 191.93 b i l l i o n at the end of 1970/71 to Rs 594.49 b i l l i o n at the end of 1980/81,
and to Rs 2,282.41 b i l l i o n at the end of 1988/89; of t h i s , i n t e r n a l debt
accounted f o r Rs 2,027.02 b i l l i o n . That i s , i n t e r n a l debt at the end of
1988-89 formed 51.8 percent of GDP i n that year.
I t i s c l e a r that during recent years the p u b l i c debt i n India has
been growing at a rather alarming r a t e , with the budget d e f i c i t s
i n c r e a s i n g as a p r o p o r t i o n of revenues as well as of GDP. 2/ A l o n g s i d e ,
the p r o p o r t i o n of the c e n t r a l government d e f i c i t f i n a n c e d by net Reserve
1/ E l i m i n a t i n g double c o u n t i n g and i g n o r i n g the small p o r t i o n of
c e n t r a l government s e c u r i t i e s held by the s t a t e governments.
2/ The r a t i o d e f i c i t to GDP was around 8 percent i n 1989/90 for the
GOI.

- 2 -

Bank of I n d i a (RBI) c r e d i t has increased from l e s s than 16 percent i n

the e a r l y 1970s to n e a r l y one t h i r d d u r i n g the l a t t e r h a l f o f the 1980s.
T h i s burgeoning of p u b l i c debt and the d i s p r o p o r t i o n a t e and r i s i n g share
of RBI c r e d i t i n the t o t a l f i n a n c i n g of c e n t r a l government budget d e f i c i t has n a t u r a l l y g i v e n r i s e t o s e r i o u s concern among f i n a n c i a l e x p e r t s
as well as the general p u b l i c . Questions have been r a i s e d about the
medium- or long-term " l s u s t a i n a b i l i t y " of the debt and i t s burden, and
f e a r s have been expressed about the Government (and the c o u n t r y ) f a l l i n g
i n t o "debt t r a p s , " e x t e r n a l and i n t e r n a l .
In c o n s i d e r i n g the growth of p u b l i c debt/GDP r a t i o and i t s consequences, not j u s t i n t e r n a l debt, but both i n t e r n a l and e x t e r n a l debt
should be i n c l u d e d . However, the growth of e x t e r n a l debt at a f a s t pace
and beyond a l i m i t c r e a t e s i t s own s p e c i a l problems, which a r e a d d i t i o n a l t o the problems caused by the r i s i n g debt/GDP r a t i o as such, and
a d i s c u s s i o n of t h e problems caused by e x t e r n a l debt must take note of
the total, e x t e r n a l debt of the economy as a whole and not j u s t t h a t of
the p u b l i c o r government s e c t o r .
In t h i s paper, a t t e n t i o n i s focused on
the i n t e r n a l p u b l i c debt o f the GOI, a l t h o u g h the GOI's e x t e r n a l debt i s
a l s o taken i n t o account at the a p p r o p r i a t e stage f o r p r o j e c t i n g the path
of growth of t o t a l p u b l i c debt/GDP r a t i o and the growth of i n t e r e s t
burden.
Three of the most r e c e n t s t u d i e s of the problem of the r a p i d growth
of Indian p u b l i c debt, namely, Rangarajan et a l (1990), B u i t e r and P a t e l
(1990), and Genberg (1989b) have c a r r i e d out mathematical e x e r c i s e s , on
the b a s i s of an i m p l i c i t or e x p l i c i t model, to p r e d i c t the growth and
n o n s u s t a i n a b i l i t y of the I n d i a n p u b l i c debt. The purpose of t h i s p r e sent paper i s not to e x p l o r e the consequences of the growth of p u b l i c
debt on the b a s i s of an e x p l i c i t model, which takes i n t o account the
i n t e r a c t i o n s between the growth of debt/GDP r a t i o , r e a l i n t e r e s t r a t e ,
growth of the economy, and i n f l a t i o n . The purpose of t h i s paper i s
r a t h e r t o demonstrate to the p o l i c y m a k e r s that the r a t e of growth of net
p u b l i c borrowing w i t n e s s e d i n recent years i s not s u s t a i n a b l e on r e a s o n a b l e assumptions regarding i n t e r e s t and growth r a t e s even i f these and
the i n f l a t i o n r a t e a r e held i n v a r i a n t to the r a t e s of growth o f
d e f i c i t / G D P and debt/GDP r a t i o s . A f t e r such d e m o n s t r a t i o n , a t t e n t i o n i s
c o n c e n t r a t e d on working out the degree of adjustment needed to r e s t r i c t
the growth o f i n t e r n a l debt to a s u s t a i n a b l e l e v e l , and on the p o l i c y
measures r e q u i r e d to move toward that o b j e c t i v e . During the course of
the d i s c u s s i o n , an attempt i s a l s o made to c l a r i f y some c o n c e p t u a l
issues .
2.

D e f i n i t i o n of p u b l i c debt and d e f i c i t

In t h i s paper, by public debt of I n d i a , we mean the i n t e r n a l and

e x t e r n a l debt of the GOI. The most comprehensive d e f i n i t i o n of I n d i a n
p u b l i c debt would i n c l u d e the indebtedness of a l l the t h r e e l e v e l s of
Government and a l l p u b l i c e n t e r p r i s e s , t o the domestic p r i v a t e s e c t o r
and to the e x t e r n a l s e c t o r . Since we are mainly concerned w i t h i d e n t i t y i n g the budgetary p o l i c y changes to be e f f e c t e d by the GOI--the main

- 3 -

actor in the field--we are confining ourselves

I t s o h a p p e n s t h a t , a s of t o d a y , t h e m a j o r p a r t
p u b l i c e n t e r p r i s e s and o f t h e s t a t e governments
t e d n e s s t o t h e GOI . H e n c e , t h e d e b t o f GOI i s
Indian p u b l i c debt.

t o t h e d e b t o f t h e GOI.
of t h e debt of c e n t r a l
consists of their indeba good index of t h e

T h e R B I i s w h o l l y o w n e d b y t h e G O I . We t r e a t R B I a s a p u b l i c
f i n a n c i a l e n t e r p r i s e a n d e x c l u d e i t f r o m t h e d e f i n i t i o n o f t h e GOI .
S i n c e t h e l i a b i l i t i e s o f GOT t o R B I a r e t r e a t e d a s p a r t o f i t s d e b t , we
a r e a b l e t o c o n s i d e r s e p a r a t e l y RBI c r e d i t t o G o v e r n m e n t , a n d d i s c u s s
its consequences.
(However, w h i l e d i s c u s s i n g t h e i n t e r e s t burden on t h e
c o m m u n i t y a r i s i n g f r o m p u b l i c d e b t , i t may b e p r o p e r t o e x c l u d e t h e
i n t e r e s t p a i d t o RBI s i n c e a l m o s t a l l o f i t c a n , i n t h e o r y , be r e r o u t e d
t o GOI a s d i v i d e n d s . ) B o r r o w i n g f r o m RBI i s e q u i v a l e n t t o p r i n t i n g
(base) money, which i s taken as s e i g n o r a g e .
Seignorage enables the
Government t o o b t a i n resources without i n c u r r i n g l i a b i l i t y t o repay o r
pay i n t e r e s t .
B o r r o w i n g f r o m t h e RBI does n o t i n e f f e c t e n t a i l a n y
l i a b i l i t y t o repay, but i n t e r e s t i s paid on t h e government debt h e l d by
it.
M o s t o f t h i s i n t e r e s t i s n o t r e r o u t e d t o GOI b u t i s s p e n t i n
v a r i o u s ways by RBI a s a l l o c a t i o n o f i t s p r o f i t s .
We a r e t h e r e f o r e
r e c k o n i n g t h e l i a b i l i t i e s o f t h e GOI t o R B I a s p a r t o f p u b l i c d e b t , a n d
i n c l u d i n g t h e i n t e r e s t t h e r e o n i n t h e i n t e r e s t on p u b l i c d e b t .
The b u d g e t d e f i c i t h a s been d e f i n e d i n many w a y s .
S i n c e we a r e
d e a l i n g w i t h p u b l i c d e b t a n d i t s g r o w t h , we d e f i n e g o v e r n m e n t d e f i c i t a s
t h e r e q u i r e d n e t b o r r o w i n g 1/ b y t h e G o v e r n m e n t t o c o v e r t h e g a p b e t w e e n
e x p e n d i t u r e s and revenues.
Since part of net borrowing i s used f o r
l e n d i n g , e x p e n d i t u r e s are t a k e n t o i n c l u d e t h o s e o n ( a ) g o o d s a n d
s e r v i c e s ; ( b ) s u b s i d i e s and t r a n s f e r s other than i n t e r e s t ; ( c ) i n t e r e s t ;
and ( d ) n e t l e n d i n g , i n c l u d i n g i n v e s tment i n e q u i t y . T h i s g a p i s g e n e r a l l y r e f e r r e d t o as f i s c a l d e f i c i t .
Fiscal d e f i c i t minus i n t e r e s t
payment has been d e f i n e d as p r i m a r y d e f i c i t , i n d i c a t i n g t h e gap i n
r e s o u r c e s o c c a s i o n e d b y t h e c u r r e n t p o l i c i e s of t h e G o v e r n m e n t .
Thus,
p r i m a r y d e f i c i t = e x p e n d i t u r e on g o o d s a n d s e r v i c e s + s u b s i d i e s a n d
t r a n s f e r payments other than i n t e r e s t + net l e n d i n g - c u r r e n t revenues
i n c l u s i v e of i n t e r e s t and d i v i d e n d r e c e i p t s .
If primary d e f i c i t i s
z e r o , i t w o u l d mean t h a t g o v e r n m e n t e x p e n d i t u r e on t h e t h r e e i t e m s
mentioned i n the above equation i s c o n f i n e d w i t h i n t h e l i m i t o f t o t a l
r e v e n u e s r a i s e d . 2/
3.

Coverage

and

assumptions

T h e s t u d y c o v e r s t h e i n t e r e s t - b e a r i n g o b l i g a t i o n s o f GOI e x c l u d i n g
( a ) s e c u r i t i e s i s s u e d to t h e i n t e r n a t i o n a l f i n a n c i a l
institutions;
(b) compensation and s p e c i a l bearer bonds; and ( c ) r e s e r v e funds and

1/
G r o s s b o r r o w i n g m i n u s r e p a y m e n t , i t a n y , of p a r t of e x i s t i n g d e b t .
2/ T h e p r i m a r y d e f i c i t c a n a l s o b e c a l c u l a t e d a f t e r e x c l u d i n g n e t
e n d i n g f r o m the e x p e n d i t u r e s i d e .

- 4 -

d e p o s i t s . The d e b t f i g u r e s used h e r e t h e r e f o r e d i f f e r f r o m t h e budget

figures.
The debt a t t h e end o f 1989-90 i s t a k e n as t h e base f o r
p r o j e c t i o n s w h i c h a r e e x t e n d e d g e n e r a l l y up t o t h e y e a r 2 0 0 0 / 0 1 .
To i n d i c a t e t h e n o n s u s t a i n a b i l i t y of t h e f i s c a l p o l i c y s t a n c e o f
r e c e n t y e a r s , we f i r s t p r o j e c t t h e g r o w t h o f i n t e r n a l d e b t on t h e
as s u m p t i o n t h a t n e t b o r r o w i n g from d o m e s t i c s o u r c e s , e x c e p t R B I , w o u l d
grow a t t h e same r a t e as i n t h e l a s t f i v e y e a r s ( A s s u m p t i o n I ) .
B o r r o w i n g from RBI i s t a k e n t o r e m a i n c o n s t a n t a s p r o p o r t i o n o f GDP.
D u r i n g t h e p r o j e c t i o n p e r i o d , n o m i n a l GDP i s assumed t o grow a t t h e r a t e
o f 12 p e r c e n t p e r annum; c o m p r i s i n g a r e a l g r o w t h r a t e o f 5.5 p e r c e n t
( a s a c h i e v e d d u r i n g t h e S e v e n t h P l a n p e r i o d ( 1 9 8 5 - 9 0 ) and as s t i p u l a t e d
i n t h e E i g h t h P l a n f o r t h e p e r i o d 1 9 9 0 - 9 5 ) , and a 6.5 p e r c e n t r i s e i n
t h e p r i c e l e v e l ( c l o s e t o t h e r a t e o f i n c r e a s e i n t h e GDP d e f l a t o r i n
the 1980s).
In o r d e r t o k e e p c l o s e t o b u d g e t a r y p r a c t i c e and t o f a c i l i t a t e t h e
use of b u d g e t a r y d a t a , b o r r o w i n g f r o m RBI o r m o n e t a r y d e f i c i t , h a s been
t a k e n t o be e q u i v a l e n t t o ( a ) i s s u e o f 91-day T r e a s u r y b i l l s , p l u s
( b ) r u n n i n g down o f G o v e r n m e n t ' s c a s h b a l a n c e s . S i n c e ( b ) i s u s u a l l y
n e g l i g i b l e , we t a k e i n e f f e c t what r o u g h l y amounts t o s h o r t - t e r m
b o r r o w i n g from R B I . 1/ The r e a s o n f o r h o l d i n g c o n s t a n t t h e r a t i o o f
b o r r o w i n g f r o m RBI i s t o make r e a l i s t i c t h e a s s u m p t i o n t h a t t h e r a t e o f
i n f l a t i o n w i l l n o t a c c e l e r a t e and w o u l d be 6.5 p e r c e n t p e r annum ( i . e . ,
o n l y s l i g h t l y h i g h e r t h a n i n t h e p a s t i n terms o f GDP d e f l a t o r ) .
Once t h e r a t e o f i n c r e a s e i n t h e p r i c e l e v e l i s t a k e n t o r e m a i n t h e
same a s i n t h e p a s t , t h e n o m i n a l r a t e s o f i n t e r e s t on t h e i n s t r u m e n t s o f
g o v e r n m e n t b o r r o w i n g a r e a l s o assumed t o r e m a i n t h e same a s i n 1989/90.
T h i s w o u l d i m p l y t h a t no i n c r e a s e i n t h e r e a l r a t e s o f i n t e r e s t w o u l d be
needed t o o b t a i n f u n d s on an i n c r e a s i n g s c a l e - - a t t h e same r a p i d pace a s
i n t h e p a s t f i v e y e a r s . T h i s i s an u n r e a l i s t i c a s s u m p t i o n . But what
c o u l d be shown i s t h a t even on s u c h an u n r e a l i s t i c a s s u m p t i o n , a p r o g r a m
of b o r r o w i n g by GOI l e a d i n g t o t h e p a s t r a t e o f g r o w t h o f i n t e r n a l
p u b l i c debt w o u l d n o t be s u s t a i n a b l e .
The n o m i n a l r a t e s of i n t e r e s t
f o l l o w s i n 1989/90:

on d i f f e r e n t

i n s t r u m e n t s were a s

1/ The m o n e t a r y d e f i c i t as d e f i n e d by t h e R e p o r t o f t h e C o m m i t t e e t o
R e v i e w t h e W o r k i n g o f t h e M o n e t a r y System ( R B I , 1985) i s b r o a d e r and
more a p p r o p r i a t e , but even t h a t does not i n d i c a t e t h e f u l l m o n e t a r y
impact of b u d g e t a r y o p e r a t i o n s s i n c e , f o r e x a m p l e , i t e x c l u d e s f o r e i g n
g r a n t s s p e n t d o m e s t i c a l l y and t h e r e c e i p t of p r o f i t s from R B I . I n
recent y e a r s , t h e m o n e t i s e d d e f i c i t , as t a k e n h e r e , and as t r a d i t i o n a l l y
measured i n I n d i a , and t h e monetary d e f i c i t as d e f i n e d by t h e a b o v e m e n t i o n e d C o m m i t t e e have been f a i r l y c l o s e a s p e r c e n t a g e of GDP.

5 -

Description

Kate of

Market l o a n s
Small s a v i n g s
( a ) Post o f f i c e s a v i n g s account.
(b) Others
Provident funds, e t c .
Treasury b i l l s

Interest

11.5
5.5
12.0
12.0
4.6

The a s s u m p t i o n t h a t the nominal r a t e s of i n t e r e s t on future borrowing would remain the same as i n the base y e a r does not mean that the
a v e r a g e r a t e of i n t e r e s t on i n t e r n a l debt would not increase. In f a c t ,
t h a t would i n c r e a s e f o r two r e a s o n s :
( a ) the r e l a t i v e share of Treasury
b i l l s w i t h the l o w e s t r a t e of i n t e r e s t would f a l l as b o r r o w i n g from
o t h e r s o u r c e s would be r i s i n g f a s t e r t h a n GDP whereas borrowing from RBI
would be g r o w i n g o n l y as f a s t as GDP; ( b ) the r a t e o f i n t e r e s t on market
l o a n s c o n t r a c t e d e a r l i e r a t lower r a t e s of i n t e r e s t and forming part o f
the b a s e - y e a r i n t e r n a l d e b t , would go up as they mature and are c o n v e r t e d i n t o "new" s e c u r i t i e s .
Indeed, an i m p o r t a n t f e a t u r e of t h i s s t u d y i s t h a t the maturity
p a t t e r n and the d i f f e r e n t i n t e r e s t r a t e s on the components of the
e x i s t i n g i n t e r n a l debt have been t a k e n i n t o a c c o u n t , and a d d i t i o n a l
i n t e r e s t l i a b i l i t y has been i n c l u d e d from the r e s p e c t i v e d a t e s o f c o n v e r s i o n . Thus, we get a p r o f i l e of i n t e r e s t burden i n r e s p e c t o f the
debt e x i s t i n g i n the base year d u r i n g the p r o j e c t i o n p e r i o d . To t h i s i s
added the i n t e r e s t on a d d i t i o n a l debt a r i s i n g from f u t u r e budget d e f i c i t s . T h i s p r o c e d u r e e n a b l e s us t o get a more r e a l i s t i c picture of the
f u t u r e i n t e r e s t burden than i f we had assumed the same average rate of
i n t e r e s t as i n the base y e a r , or had a p p l i e d the m a r g i n a l rates to the
d i f f e r e n t components of t o t a l d e b t .
H a v i n g t r a c e d the major i m p l i c a t i o n s of the growth of net domest i c b o r r o w i n g at a pace r e g i s t e r e d d u r i n g the past f i v e years
( A s s u m p t i o n I), we then p r o j e c t the growth of i n t e r n a l debt on t h e
a s s u m p t i o n t h a t the r a t i o of net d o m e s t i c b o r r o w i n g to GDP remains
c o n s t a n t a t the l e v e l reached i n 1989/90 ( A s s u m p t i o n I I ) . In both
c a s e s , i n o r d e r to g i v e an i d e a of the t o t a l debt burden, we add on t h e
growth of e x t e r n a l debt of GOI on the assumption t h a t e x t e r n a l b o r r o w i n g
would form the same p r o p o r t i o n o f GDP as i n the base y e a r .
4.

The

p u b l i c debt p o s i t i o n

i n the base year (1989/90)

At the end of 1989/90, t o t a l i n t e r n a l debt amounted t o Rs 2,098.7

b i l l i o n , which c o n s t i t u t e d 47.9 p e r c e n t of GDP.
The major components of
the i n t e r n a l debt and t h e i r r e l a t i v e i m p o r t a n c e a r e shown i n T a b l e 1.
T r e a s u r y b i l l s r e p r e s e n t i n g b o r r o w i n g from RBI and market l o a n s were of
equal i m p o r t a n c e , each c a t e g o r y a c c o u n t i n g t o r about 30 p e r c e n t of t h e
total.
W h i l e the T r e a s u r y b i l l s mentioned here a r e h e l d by RBI , much of

- 6 -

the g r e a t e r part of market loans are h e l d by the banks and o t h e r f i n a n c i a l i n s t i t u t i o n s . On the o t h e r hand, p r o v i d e n t funds and s m a l l s a v i n g s
r e p r e s e n t d i r e c t l i a b i l i t i e s to h o u s e h o l d s , and these t o g e t h e r a c c o u n t e d
f o r about 40 percent of GOI's i n t e r n a l debt.

Table 1.

India:

The Level of Debt and i t s C o m p o s i t i o n

In B i l l i o n s
of Rupees
Market l o a n s
Small s a v i n g s
P r o v i d e n t funds, e t c .
Treasury
bills
T o t a l domestic debt

29.8
19.3
20.8
30.1
100.0

285.17

E x t e r n a l debt
Total domestic debt
External debt/GDP
Total debt/GDP

624.42
409.83
436.43
632.02
2,098.70

Percent
of T o t a l

/GDP

47.90
0.65
48.55

E x t e r n a l debt at the end of 1989/90 amounted t o Rs 285.2 b i l l i o n ,

w h i c h was o n l y 12.3 p e r c e n t of GDP. Thus, the t o t a l p u b l i c debt f o r m e d
60.2 p e r c e n t of GDP. 1/
In t h e same y e a r , o f the t o t a l d o m e s t i c b o r r o w i n g , T r e a s u r y b i l l s
c o n s t i t u t e d 33 p e r c e n t , p r o v i d e n t f u n d s 25.9 p e r c e n t , and s m a l l s a v i n g s
19.6 p e r c e n t . We n o t e t h a t the m a r g i n a l s h a r e o f T r e a s u r y b i l l s i s
h i g h e r than t h e i r average share, w h i l e i t i s lower than the average
s h a r e i n r e s p e c t o f market l o a n s . The combined m a r g i n a l s h a r e o f p r o v i dent f u n d s and s m a l l s a v i n g s was h i g h e r than t h e a v e r a g e . T h u s , w h i l e
the Government was a b l e t o borrow r e l a t i v e l y more d i r e c t l y f r o m t h e
h o u s e h o l d s l a r g e l y t h r o u g h h i g h e r p r o v i d e n t fund payments, i t was f o r c e d
to depend much more on RBI c r e d i t t h a n i n t h e p a s t .

1/ T h i s f i g u r e d i f f e r s from i h e debt GDP r a t i o d e r i v e d f r o m

u n a d j u s t e d b u d g e t a r y d a t a , w h i c h was g i v e n e a r l i e r w h i l e d i s c u s s i n g t h e
past growth of d e b t . See Appendix 1 t o r a n a l y s i s of g r o w t h i n p u b l i c
debt between 1984/85 and 1989/90.

- 7-

In the budget p r o p o s a l s f o r 1989/90, i t had been decided t o l i m i t

borrowing from RBI through T r e a s u r y b i l l s t o around Rs 72.0 b i l l i o n ,
which would have formed 1.64 percent of GDP f o r t h a t year. The r e v i s e d
e s t i m a t e s , however, showed that borrowing from RBI would reach Rs 113.76
billion.
R e a l i z i n g t h a t borrowing from RBI i n such r e l a t i v e magnitude
was h i g h l y i n f l a t i o n a r y , the Finance M i n i s t e r has proposed t h a t i n
1990/91, T r e a s u r y b i l l s i s s u e would be l i m i t e d t o Rs 74.07 b i l l i o n .
Given the past performance and the t r e n d s i n e x p e n d i t u r e , i t appears
that t h i s l i m i t might be exceeded.
However, s i n c e we wish t o p r e s e r v e
the assumption t h a t the i n f l a t i o n r a t e would not a c c e l e r a t e , we would
l i k e t o proceed on the b a s i s t h a t the Government would be a b l e from now
on t o h o l d RBI c r e d i t to i t s e l f at 1.7 percent of GDP. We a r e t h e r e f o r e
assuming t h a t net RBI c r e d i t t o Government was o n l y Rs 74.07 b i l l i o n i n
1989/90, and have d e r i v e d on that b a s i s the f i g u r e s f o r the succeeding
years. C o r r e s p o n d i n g l y , the t o t a l net borrowing d u r i n g 1989/90, which
forms the b a s i s of p r o j e c t i o n s , i s taken t o be Rs 304.98 b i l l i o n ,
i n s t e a d of the r e v i s e d budget e s t i m a t e of Rs 344.67 b i l l i o n .
As taken here, the t o t a l budget d e f i c i t i n 1989/90 c o n s t i t u t e d 7.65
percent of GDP ( i n t e r n a l borrowing 7.0 p e r c e n t , and e x t e r n a l borrowing
0.65 p e r c e n t ) . Primary d e f i c i t formed 3.7 percent of GDP, and gross
i n t e r e s t payments 3.9 p e r c e n t .
5.

Growth of p u b l i c debt--1990/91 through 2000/01:

Assumption I

Table 2 shows the e v o l u t i o n of the i n t e r n a l debt/GDP r a t i o on the

assumption that a l l major components of domestic borrowing o t h e r than
RBI c r e d i t ( i . e . , market l o a n s , post o f f i c e s a v i n g s , o t h e r s m a l l
s a v i n g s , and p r o v i d e n t funds) would grow at the same r e s p e c t i v e r a t e s as
d u r i n g the l a s t f i v e y e a r s . T h i s i s taken t o r e p r e s e n t the c o n t i n u a t i o n
of the present stance of f i s c a l p o l i c y . On the above assumption, the
i n t e r n a l debt/GDP r a t i o grows at an i n c r e a s i n g r a t e , from 47.9 percent
at the end of 1989/90 t o 102 percent by the end o f 2000/01. The
i n t e r e s t on i n t e r n a l debt c o r r e s p o n d i n g l y r i s e s from 3.6 percent of GDP
in 1989/90 t o 8.7 percent i n 2000/01 (Table 3 ) .
To the above must be added the burden of e x t e r n a l debt. We make
the simple assumption that e x t e r n a l net borrowing by the Government
would remain constant as p r o p o r t i o n of GDP at the l e v e l i n 1989/90, and
that the average i n t e r e s t r a t e on Government's e x t e r n a l debt w i l l not
change. In p r a c t i c e , t h i s assumption might not h o l d good; most l i k e l y ,
the l i a b i l i t i e s and the burden of i n t e r e s t i n terms of rupees would be
h i g h e r . 1/ T h i s would o n l y mean that i f a n y t h i n g , we a r e u n d e r e s t i mating the e x t e r n a l part of t o t a l l i a b i l i t i e s . When e x t e r n a l l i a b i l i t i e s a r e added, the t o t a l debt/GDP r a t i o i s seen t o r i s e from
60.2 percent of GDP at the end of 1989/90 t o 109.9 percent i n 2000/01
(Table 2 ) . The t o t a l i n t e r e s t payments r i s e from 3.9 percent of GDP i n
1/ The rupee might d e p r e c i a t e f a s t e r than the r a t e of domestic i n f l a t i o n , the i n t e r e s t i n d o l l a r terms might harden, and the r a t i o of
f o r e i g n borrowing to GDP might r i s e .

47.9

1989/90
1990/91
1991/92
1992/93
1993/94
1994/95
1995/96
1996/97
1997/98
1998/99
1999/00
2000/01
50.2
52.7
55.6
58.9
62.7
67.0
72.1
78.1
84.7
92.7
102.1

Domestic Debt

8.6
8.3
8.1
7.9

8.9

9.6
9.2

12.3
11.6
11.0
10.5
10.0
60.2
61.8
63.8
66.1
68.9
72.3
76.3
81.0
86.7
93.1
100.8
109.9

Total Debt
47.9
49.7
51.4
52.8
54.1
55.3
56.3
57.2
58.2
58.8
59.5
60.1

Domestic Debt

9.6
9.2
8.9
8.6
8.3
8.1
7.9

12.3
11.6
11.0
10.5
10.0

Assumption II
External Debt

60.2
61.4
62.4
63.3
64.1
64.9
65.5
66.1
66.8
67.1
67.5
67.9

Total Debt

Pretection of the Growth of Debt to GDP Under Assumptions I and II

Assumption I
External Debt

India:

Year

Table 2.

1939/90
1990/91
1991/92
1992/93
1993/94
1994/95
1995/96
1996/97
1997/98
1998/99
1999/00
2000/01

3.58
3.84
4.09
4.39
4.71
5.08
5.50
5.97
6.51
7.14
7.87
8.73

Interest on
Internal Debt
to GDP

0.339
0.348
0.329
0.312
0.297
0.284
0.272
0.261
0.251
0.243
0.235
0.228
8.96

3.92
4.19
4.42
4.70
5.01
5.37
5.77
6.23
6.76
7.38
8.11

Interest on
Total Debt
to GDP

3.58
3.88
4.09
4.28
4.45
4.60
4.73
4.84
4.95
5.04
5.12
5.20

Interest on
Internal Debt
to GDP

Interest on
Total Debt
to GDP

3.92
4.23
4.42
4.59
4.75
4.88
5.00
5.10
5.20
5.28
5.36
5.43

0.339
0.348
0.329
0.312
0.297
0.284
0.272
0.261
0.251
0.243
0.235
0.228

and I I

Assumption I I
Interest on
External Debt
to GDP

Growth of Interest on Public Debt Under Assumptions I

Assumption I
Interest on
External Debt
to GDP

Table 3. India:

- 10 -

1989/90 t o 9.1 p e r c e n t i n 2000/01 ( T a b l e 3 ) . Even i f one assumes t h a t

t h e b u o y a n c y o f r e v e n u e s o f GOI would be 1 . 2 - - h i g h e r t h a n i n the p a s t - g r o s s i n t e r e s t payments would a b s o r b a s much a s 60.6 p e r c e n t o f r e v e n u e s
i n 2000/01 . And i f r e v e n u e s i n c r e a s e d o n l y as f a s t as GDP, i n t e r e s t
payments w o u l d a b s o r b 76.5 p e r c e n t o f r e v e n u e s i n t h a t y e a r ( T a b l e 4 ) .
By t h a t y e a r t h e t o t a l f i s c a l d e f i c i t would have r e a c h e d 20.0 p e r c e n t of
GDP and d o m e s t i c b o r r o w i n g would be 19.3 p e r c e n t o f GDP, w i t h t h e
p r i m a r y d e l i c i t r e a c h i n g n e a r l y 11 p e r c e n t o f GDP ( T a b l e s 5
and 9 ) .
We have so f a r c o n s i d e r e d t o t a l b o r r o w i n g and g r o s s i n t e r e s t p a y ments o u t o f t h e b u d g e t .
P a r t of t h e G o v e r n m e n t ' s b o r r o w i n g h a s b e e n ,
and i n t h e f u t u r e would be, used f o r net f i n a n c i a l i n v e s t m e n t s .
Hence,
t h e n e t i n t e r e s t b u r d e n on t h e b u d g e t would depend on t h e r e t u r n on s u c h
i n v e s t m e n t s . To t h e e x t e n t t h a t t h e r e t u r n s on f i n a n c i a l i n v e s t m e n t s
c o v e r t h e i n t e r e s t on t h e p a r t of b o r r o w i n g used f o r s u c h i n v e s t m e n t s ,
t h e n e t b u r d e n on t h e budget would be r e d u c e d ( o r would n o t i n c r e a s e ) .
O v e r t h e y e a r s , t h e r a t i o o f r e t u r n on i n v e s t m e n t s i n t h e f o r m o f
r e c e i p t s o f i n t e r e s t and d i v i d e n d t o i n t e r e s t p a y m e n t s , h a s been f a l ling.
Such r e c e i p t s formed 83 p e r c e n t o f g r o s s i n t e r e s t payments i n
1982/83; by 1989/90, t h e y had come down t o 48.4 p e r c e n t .
Correspondi n g l y , net i n t e r e s t payments by t h e Government have r i s e n from 17 p e r c e n t o f g r o s s payments i n 1982/83 t o 51.6 p e r c e n t i n 1 9 8 9 / 9 0 . T h e r e
seem t o be t h r e e m a i n r e a s o n s f o r t h e f a l l i n t h e r a t i o o f r e t u r n s t o
payments o f i n t e r e s t on d e b t . F i r s t , an i n c r e a s i n g p a r t o f n e t b o r r o w i n g by t h e Government has been a b s o r b e d by e x p e n d i t u r e s o t h e r t h a n n e t
l e n d i n g . S e c o n d , t h e r a t e s o f i n t e r e s t c h a r g e d , and r e c o v e r i e s o f
i n t e r e s t d u e , have been l a g g i n g b e h i n d i n t e r e s t p a y m e n t s . T h i r d , t h e
a v e r a g e r a t e o f d i v i d e n d on e q u i t y i n p u b l i c e n t e r p r i s e s has been q u i t e
low.
I t i s n o t p o s s i b l e t o p r e d i c t t h e movements i n t h e above t h r e e
r e l a t i o n s i n t h e f u t u r e . We, t h e r e f o r e , c o n s i d e r two a l t e r n a t i v e p o s s i bilities.
We work o u t n e t i n t e r e s t payments on two a l t e r n a t i v e assumpt i o n s , n a m e l y , t h a t t h e y would r e m a i n 50 p e r c e n t o f g r o s s , and t h a t t h e y
w o u l d f a l l a s p e r c e n t a g e of g r o s s g r a d u a l l y t o 25 p e r c e n t by 2010/11 1/
(the
l a t t e r w o u l d mean a r a d i c a l r e v e r s a l of p a s t t r e n d s ) .
T a b l e 6 shows what t h e p r o p o r t i o n s of n e t i n t e r e s t payments t o n e t
r e v e n u e s ot t h e Government would be u n d e r d i f f e r e n t s e t s o f a s s u m p t i o n s
c o n c e r n i n g t h e r a t e of g r o w t h o f r e v e n u e s and t h e p r o p o r t i o n s of n e t t o
g r o s s payments of i n t e r e s t .
I t n e t i n t e r e s t payments a r e 50 p e r c e n t of
g r o s s payments u n d e r t h e a s s u m p t i o n o f G o v e r n m e n t ' s r e v e n u e s g r o w i n g a s
f a s t a s GDP, n e t i n t e r e s t payment as p e r c e n t o f n e t r e v e n u e s w o u l d r i s e
from 20.7 p e r c e n t i n 1989/90 t o 61.9 p e r c e n t i n 2 0 0 0 / 0 1 ; e v e n w i t h a
b u o y a n c y o f 1.2, n e t i n t e r e s t payments would have r i s e n t o 43.4 p e r c e n t
of n e t r e v e n u e s by 2 0 0 0 / 0 1 . If one assumes t h a t n e t i n t e r e s t w o u l d t a l l
to 25 p e r c e n t of g r o s s i n t e r e s t , and government r e v e n u e s w i l l have a
b u o y a n c y o f 1.2 p e r c e n t - - b o t h " f a v o r a b l e " as s u m p t i o n s - - n e t i n t e r e s t
payments would r i s e to 29.4 p e r c e n t o f n e t r e v e n u e s by 2 0 0 0 / 0 1 . But
1/

T h i r t y - n i n e percent

by 2 0 0 0 / 0 1 .

- 11 -

Table 4. India: Gross Interest Payments on Total Debt

as Percent of Gross Central Government Revenue

Year

1989/90
1990/91
1991/92
1992/93
1993/94
1994/95
1995/96
1996/97
1997/98
1998/99
1999/00
2000/01

Year
1989/90
1990/91
1991/92
1992/93
1993/94
1994/95
1995/96
1996/97
1997/98
1998/99
1999/00
2000/01

Elasticity
= 1.0
33.6
35.7
37.9
40.2
42.8
45.8
49.2
53.2
57.7
63.0
69.2
76.5

Elasticity
= 1.0
33.6
36.0
37.7
39.2
40.5
41.6
42.7
43.6
44.4
45.1
45.7

46.3

Assumption I
Elasticity

Elasticity

= 1.1

= 1.2

33.6
35.4
37.1
38.9
41.0
43.4
46.2
49.3
53.0
57.3
62.2

33.6
35.0
36.3
37.7
39.3
41.2
43.4
45.8
48.7
52.1
56.0
60.6

68.0

Assumption II
Elasticity

= 1.1
33.6
35.7
36.9
38.0
38.8
39.5
40.0
40.4
40.7
41.0
41.1
41.2

Elasticity
= 1.2
33.6
35.3
36.2
36.8
37.2
37.4
37.6
37.6
37.4
37.3
37.0
36.7

1989/90
1990/91
1991/92
1992/93
1993/94
1994/95
1995/96
1996/97
1997/98
1998/99
1999/00
2000/01

Year
7.6
8.1
8.6
9.2
9.9

10.7
11.7
12.9
14.2
15.8
17.7
20.0

7.0
7.4
7.9
8.5
9.3

10.1
11.1
12.2
13.6
15.2
17.1
19.3

Total Borrowing
Assumption I
7.0
7.0
7.0
7.0
7.0
7.0
7.0
7.0
7.0
7.0
7.0
7.0

Domestic Borrowing
Assumption II

7.6
7.6
7.6
7.6
7.6
7.6
7.6
7.6
7.6
7.6

7.6

7.6

Total Borrowing
Assumption II

India: Ratio of Borrowing (Domestic and Total) to GDP

Under Assumptions I and II

Domestic Borrowing
Assumption I

Table 5.

- 13 -

Table 6. India: Net Interest Payments on Total Debt

as Percent of Net Central Government Revenue

Parameters Table
0.120

Growth In GDP
Growth in revenues of
Central Government
for e l a s t i c i t y =

1.0
1.2

0.120
0.144

Net Revenues of Central Govt. (e = 1.0)

Assumption I
Assumption I I
50% wt
50-25% wt
50% wt
50-25% wt
1989/90
1990/91
1991/92
1992/93
1993/94
1994/95
1995/96
1996/97
1997/98
1998/99
1999/00
2000/01
2001/02
2002/03
2003/04
2004/05
2005/06
2006/07
2007/08
2008/09
2009/10
2010/11
Note:

20.7
21.8
23.3
25.1
27.2
29.7
32.7
36.2
40.6
46.0
52.9
61.9
73.9
90.5
114.5
152.0
217.4
357.8
859.7
-3,340.4
-624.1
-363.0

20.7
21.8
22.6
23.6
24.7
26.0
27.5
29.2
31.3
33.7
36.7
40.2
44.5
49.8
56.3
64.5
74.9
88.3
106.2
130.9
166.8
222.7

20.7
22.0
23.2
24.4
25.4
26.3
27.1
27.9
28.5
29.1
29.6
30.1
30.5
30.9
31.3
31.6
31.9
32.1
32.3
32.5
32.7
32.9

20.7
22.0
22.5
22.9
23.0
23.1
23.0
22.7
22.4
22.0
21.5
21.0
20.4
19.8
19.2
18.5
17.8
17.1

16.3
15.6
14.9
14.1

Net Revenues of C e n t r a l Govt. (e = 1.2)

Assumption I
Assumption I I
50% wt
50-25% wt
50% wt
50-25% wt
20.7
21.2
22.2
23.2
24.5
25.9
27.7
29.7
32.2
35.2
38.9
43.4
49.1
56.4
65.8
78.2
95.3
119.8
157.5
221.6
353.0
761.9

20.7
21.2
21.5
21.8
22.2
22.8
23.4
24.2
25.2
26.3
27.7
29.4
31.4
33.8
36.6
39.9
43.9
48.6
54.2
61.0
69.2
79.1

20.7
21.4
22.1
22.5
22.8
23.0
23.1
23.1
23.0
22.9
22.7
22.4
22.2
21.9
21.5
21.2
20.8
20.4
20.0
19.6
19.2

Net c e n t r a l government revenues = Gross revenues - Net i n t e r e s t payments

20.7
21.4
21.4
21.2
20.8
20.3
19.7
19.0
18.3
17.5
16.7
15.9
15.1
14.4
13.6
12.8
12.1
11.3
10.6
9.9
9.2
8.6

- 14 -

even t h a t w o u l d c o n s t i t u t e an u n s u s t a i n a b l e s i t u a t i o n , w h e r e i n o n l y
70.6 p e r c e n t o f n e t r e v e n u e s w o u l d be a v a i l a b l e f o r n o n i n t e r e s t
e x p e n d i t u r e ; by 2 0 1 0 / 1 1 , n e t i n t e r e s t payments w o u l d a b s o r b n e a r l y
80 p e r c e n t o f n e t r e v e n u e s .
T h e n u m b e r s r e g a r d i n g t h e d e b t b u r d e n we h a v e g i v e n i n t h e p r e c e d i n g p a r a g r a p h s c l e a r l y i n d i c a t e t h a t t h e b u d g e t of GOI w o u l d h a v e
e n t e r e d a d i s a s t r o u s s i t u a t i o n by t h e t u r n o f t h e c e n t u r y , i f n e t b o r r o w i n g w e r e i n c r e a s e d d u r i n g t h e n e x t t e n y e a r s as f a s t as d u r i n g t h e
last five years.
T h e d e b t / G D P r a t i o w o u l d r i s e t o 110 p e r c e n t a n d t h e
g r o s s i n t e r e s t b u r d e n w o u l d r i s e t o m o r e t h a n 9.0 p e r c e n t of GDP,
a b s o r b i n g 6 1 - 7 7 p e r c e n t of g o v e r n m e n t r e v e n u e s d e p e n d i n g o n w h e t h e r
r e v e n u e s e x h i b i t e d a b u o y a n c y of 1 o r 1.2.
Even t h o u g h the a v e r a g e
e f f e c t i v e r a t e o f i n t e r e s t p a i d on d e b t ( T a b l e 7 ) w o u l d , o n o u r
a s s u m p t i o n s , be l o w e r t h a n t h e r a t e o f g r o w t h - - a r e a l r a t e of i n t e r e s t
o f 1.5 p e r c e n t a s a g a i n s t t h e r e a l r a t e o f g r o w t h o f 5.5 p e r c e n t - - t h e
debt r a t i o would c o n t i n u e to grow because of the r i s i n g r a t i o of p r i m a r y
d e f i c i t t o GDP a n d t h e h i g h e r m a r g i n a l r a t e of i n t e r e s t .
The t a s k o f
r e v e r s i n g t h e t r e n d s w o u l d be f a r m o r e d i f f i c u l t i n 2 0 0 0 / 0 1 t h a n now.

T a b l e 7.

1990/91
1991/92
1992/93
1993/94
1994/95

Interest

K a t e on T o t a l

Average
debt.

interest. rate

calculated

Debt

Assumption II

6.5
6.8
6.9
7.1
7.3
7.4
7.6
7.7
7.8
7.9
8.0

1996/97
1997/98
1998/99
1999/00
2000/01
Note:
total

Average

Assumption I

Year

by

India:

6.5
6.9
7.1
7.3
7.4
7.5
7.6
7.7
7.8
7.9
7.9
as

total

interest

divided

I n t h e s c e n a r i o s k e t c h e d a b o v e , o n l y the f i r s t r o u n d - e f f e c t of t h e
g r o w t h of b o r r o w i n g o r d e f i c i t a s p r o p o r t i o n of G D P h a s b e e n c o n s i d e r e d ,
T h e i m p a c t of t h e
fast
r a t e of g r o w t h of d e f i c i t a n d of t h e d e b t /GDP
r a t i o o n t h e r a t e of i n t e r e s t , t h e r a t e of g r o w t h o f GDP,
and the r a t e

- 15 -

of i n f l a t i o n has not been taken i n t o account. But s u r e l y , w i t h borrowi n g from the RBI f r o z e n as percent of GDP, the Government would f i n d i t
i n c r e a s i n g l y d i f f i c u l t to squeeze more funds out of the market. Even i f
one assumes that the rate of domestic savings would r i s e , say, from
21 percent of GDP i n 1989/90 to 23 percent i n 2000/01, the Government's
domestic borrowing on the s c a l e p o s t u l a t e d would absorb an i n c r e a s i n g
p r o p o r t i o n of domestic s a v i n g s , going up to 74.2 percent by 2000/01
(Table 8 ) . The a b s o r p t i o n of such a high p r o p o r t i o n of p r i v a t e savings
--government s e c t o r savings are l i k e l y to be n e g l i g i b l e - - w o u l d not be
p o s s i b l e without a steep i n c r e a s e i n the i n t e r e s t r a t e and severe
crowding out of p r i v a t e investment r e s u l t i n g i n a f a l l i n the growth
r a t e . 1/
Rangarajan et al (1990) have attempted to p r o j e c t the growth of
p u b l i c debt and i n t e r e s t burden by f i r s t d e r i v i n g the growth of net
primary d e f i c i t through e s t i m a t i n g n o n i n t e r e s t revenues and n o n i n t e r e s t
e x p e n d i t u r e s on the b a s i s of observed e l a s t i c i t i e s , and then e s t i m a t i n g
the growth of i n t e r e s t and debt using the primary d e f i c i t f i g u r e s , and
on the b a s i s of p l a u s i b l e assumptions r e g a r d i n g r e l e v a n t key parameters.
Although they have assumed the same growth r a t e of nominal GDP as i n our
e x e r c i s e , and kept constant the r a t i o of e x t e r n a l borrowing, and borrowing from RBI to GDP, as we have done, they a r r i v e at much l a r g e r e s t i mates of d e f i c i t and debt/GDP r a t i o s than ours. T h e i r e s t i m a t e s of the
key r a t i o s f o r the year 1999/2000 are as given below:

As percent of GDP
Noninterest
Revenue

Noninterest Expenditure
Excluding Net Lending

16.05

27.19

in 1999-2000
Net

Primary
Deficit
11.1

Gross Primary
Deficit
Debt
19.5

149.7

1/
Instead of assuming that each major component of domestic borrowing would grow as d u r i n g t h e l a s t f i v e y e a r s , one c o u l d assume that
t o t a l d o m e s t i c b o r r o w i n g w o u l d g r o w a t t h e same r a t e ( 1 6 . 9 p e r c e n t p e r
annum). T h i s would i m p l y i m p o s i n g a u n i f o r m g r o w t h r a t e on a l l compon e n t s e x c e p t RBI c r e d i t .
I f we d i d t h a t , t h e d e b t / G D P r a t i o w o u l d g r o w
l e s s l a s t , b u t n e v e r t h e l e s s , t h e s i t u a t i o n i n 2 0 0 0 / 0 1 w o u l d be q u i t e
grave.
The debt/GDP r a t i o would have r i s e n t o 84.9 p e r c e n t and t h e
interest burden to 7 percent.
Cross i n t e r e s t payments would absorb
4 9 p e r c e n t of r e v e n u e s w i t h a b u o y a n c y o f 1 . 2 , a n d 6 2 p e r c e n t w i t h a
b u o y a n c y o f 1.0.
Domestic b o r r o w i n g would a b s o r b 48.7 p e r c e n t o f domest i c s a v i n g , as a g a i n s t 33.2 p e r c e n t i n 1 9 8 9 / 9 0 . E v e n t h e s e f i g u r e s
imply severe d i s r u p t i o n to the economy.

92,000
104,022
117,603
132,947
150,279
169,857
191,969
216,942
245,145
276,992
312,952

GDP
Rs. Crore

438,097
490,669
549,549
615,495
689,354
772,077
864,726
968,493
1,084,712
1,214,877
1,360,663

Year

1989/90
1990/91
1991/92
1992/93
1993/94
1994/95
1995/96
1996/97
1997/98
1998/99
1999/00
21.00
21.20
21.40
21.60
21.80
22.00
22.20
22.40
22.60
22.80
23.00

Gross
Domestic
Savings
to GDP
(%)
30,498
36,352
43,581
52,558
63,774
77,869
95,683
118,318
147,221
184,300
232,067

30,498
34,151
38,249
42,838
47,979
53,737
60,185
67,407
75,496
84,555
94,702

Net Domestic Borrowing

Assumption I I
Assumption I
Rs. Crore
Rs. Crore
33.15
34.95
37.06
39.53
42.44
45.84
49.84
54.54
60.05
66.54
74.15

33.15
32.83
32.52
32.22
31.93
31.64
31.35
31.07
30.80
30.53
30.26

Net Domestic Borrowing to GDP

Assumption I I
Assumption I
(%)
(%)

India: Net Domestic Borrowing as a Percent of Gross Domestic Savings

Gross
Domestic
Savings
Rs. Crore

Table 8.

- 17 -

The main reasons f o r Rangarajan and others o b t a i n i n g l a r g e r e s t i mates than under our Assumption I seem to be the higher expenditure
e l a s t i c i t y d e r i v e d through the use of longer period data (we have used
the trends of the f i v e years preceding 1990/91) and the a p p l i c a t i o n of
the marginal rate of i n t e r e s t to t o t a l debt. On the other hand, they
seem to be o v e r e s t i m a t i n g the rate of i n t e r e s t r e c e i v e d by the Government. However that may be, the two e x e r c i s e s point to the same conc l u s i o n , namely, that with the c o n t i n u a t i o n of the present stance of
f i s c a l p o l i c y , the debt/GDP r a t i o and the r a t i o of i n t e r e s t on p u b l i c
debt to GDP would continue to grow, and that by the turn of the century,
the f i s c a l s i t u a t i o n would have already caused great harm to the
economy. Although the marginal rate of i n t e r e s t on borrowing i s s t i l l
below the assumed growth r a t e , with primary d e f i c i t r i s i n g as a percent
of GDP, the debt/GDP r a t i o would continue to r i s e even a f t e r 2001 unless
there are r a d i c a l p o l i c y c o r r e c t i o n s .
I t must be pointed out that we have counted only the borrowing and
d e f i c i t of the GOI, which i s of course the major borrower. But s t a t e
governments also borrow from the market, from f i n a n c i a l i n s t i t u t i o n s ,
and through provident fund d e p o s i t s . Besides, s e l e c t e d p u b l i c e n t e r p r i s e s have been allowed to borrow from the market with tax concessions.
They have also been permitted to incur e x t e r n a l debt. I t i s the t o t a l
demand f o r funds of the public sector that must be kept i n mind while
c o n s i d e r i n g the p o s s i b i l i t y of crowding out of p r i v a t e investment, the
pressure on i n t e r e s t r a t e s , and the i m p l i c a t i o n s f o r balance of
payments.
Government has a captive market from which i t attempts to o b t a i n a
good part of i t s requirements to cover i t s d e f i c i t . However, as we have
seen e a r l i e r , Government has had to r e l y i n c r e a s i n g l y on d i r e c t borrowings from the household sector i n the form of small savings and p r o v i dent funds. 1/ In 1989/90, the share of these sources i n t o t a l domestic
borrowing was already over 45 percent, as against t h e i r average share
( i n debt) of 40 percent. If the Government continues to borrow a r i s i n g
proportion of GDP, the share of d i r e c t borrowings from the households
would r i s e , as we have assumed i n our e x e r c i s e , and the r e a l rate of
i n t e r e s t would have to r i s e .
We have assumed that seignorage i n the form of RBI c r e d i t can form
1.69 percent of GDP with a real rate of growth of 5.5 percent and a
target rate of i n f l a t i o n of 6.5 percent. I f a lower r a t e of i n f l a t i o n
i s d e s i r e d , or i f i t i s found that the r e l a t i v e amount of seignorage we
have assumed would lead to a higher rate of i n f l a t i o n , borrowing from
RBI would have to be kept at a lower l e v e l . This would again mean a
higher e f f e c t i v e rate of i n t e r e s t on government borrowing.

1/ In the 1970s, f i n a n c i a l i n s t i t u t i o n s invested in small savings

instruments, but more r e c e n t l y only households are buying them.

- 18 -

For r e a s o n s d i s c u s s e d i n the two p r e c e d i n g p a r a g r a p h s , the a v e r a g e

e f f e c t i v e r a t e o f i n t e r e s t on a d d i t i o n a l d o m e s t i c b o r r o w i n g w o u l d
increase.
At p r e s e n t , t h i s r a t e i s 8.6 p e r c e n t , w h i c h l e a v e s a gap of
a b o u t 3.4 p e r c e n t a g e p o i n t s between the ( p r o j e c t e d ) r e a l r a t e of g r o w t h
and t h e r e a l r a t e of i n t e r e s t . W i t h the n a r r o w i n g o f the gap, the
debt/GDP r a t i o would r i s e f a s t e r t h a n p r o j e c t e d .
The r a t e of i n t e r e s t on government debt has been r i s i n g f a i r l y
s t e a d i l y s i n c e the e a r l y 1970s. Hans Genberg ( 1 9 8 9 a ) has worked out
w e i g h t e d a v e r a g e y i e l d on small s a v i n g s i n s t r u m e n t s and the a v e r a g e
i n t e r e s t on debt of GOI ( T a b l e I I - 1 , p.A).
The f o r m e r r o s e from
3.9 p e r c e n t i n 1970 to 10.9 p e r c e n t i n 1986, and the l a t t e r from
2.9 p e r c e n t i n 1970 to 6 p e r c e n t i n 1986.

the

In I n d i a , as i s known, the i n t e r e s t r a t e s a r e a d m i n i s t r a t i v e l y s e t ,
and as s u c h , t h e y a r e not a l l o w e d to p l a y a m a r k e t - c l e a r i n g r o l e . G i v e n
the i n t e r e s t r a t e s , the amount of government debt w h i c h the p r i v a t e
s e c t o r , more p a r t i c u l a r l y , the n o n f i n a n c i a l s e c t o r , would buy, depends
on i t s s a v i n g s b e h a v i o r and p o r t f o l i o p r e f e r e n c e s o r p o r t f o l i o demand
e l a s t i c i t i e s w i t h r e s p e c t to the r a t e of i n t e r e s t . T h i s b e i n g s o , i n
o r d e r to i n d u c e the p r i v a t e s e c t o r t o h o l d l a r g e r d e b t , the Government
has to a d j u s t the r e a l i n t e r e s t r a t e s upward i n the l i g h t of the
e x p e c t e d b e h a v i o r of the p r i v a t e s e c t o r .
E m p i r i c a l work c a r r i e d out on
the b a s i s of r e c e n t d a t a by Genberg ( 1 9 8 9 a ) s u p p o r t s the v i e w t h a t t h e
c o m p o s i t i o n of p r i v a t e s e c t o r p o r t f o l i o s i n I n d i a r e s p o n d s s i g n i f i c a n t l y
to r e l a t i v e i n t e r e s t r a t e s . A h i g h e r volume of government d e b t r e l a t i v e
to GDP w i l l o n l y be a b s o r b e d a t a h i g h e r i n t e r e s t r a t e .
Once we a l l o w for a r i s e i n the i n t e r e s t r a t e on government b o r r o w i n g , the p r o j e c t i o n s we have made of debt/GDP r a t i o and of i n t e r e s t
burden would become i n v a l i d , even i f the a s s u m p t i o n s r e g a r d i n g the r a t e
of i n f l a t i o n and the buoyancy of r e v e n u e s s h o u l d h o l d good. F o r , w i t h
the h i g h e r r a t e of i n t e r e s t , the d e b t / r a t i o would grow f a s t e r , and w i t h
t h e h i g h e r i n t e r e s t r a t e d e p r e s s i n g p r i v a t e i n v e s t m e n t , the r a t e of
g r o w t h w i l l tend t o go down. We must, t h e r e f o r e , c o n c l u d e t h a t the
p r e s e n t f i s c a l s t a n c e i s one t h a t cannot be s u s t a i n e d , and must c o n s i d e r
s u b s t a n t i a l l y r e d u c i n g the s c a l e of government b o r r o w i n g .
6.

Debt dynamics and

r e l a t e d conceptual

issues

B e f o r e we c o n s i d e r the degree of p o l i c y c o r r e c t i o n n e e d e d , i t may

be u s e f u l to d i s c u s s b r i e f l y the t h e o r y of debt dynamics as r e c e n t l y
d e v e l o p e d , as w e l l as c e r t a i n r e l a t e d c o n c e p t u a l
issues.
In v i e w of the l a s t growth of i n t e r n a l debt/GDP r a t i o s i n s e v e r a l
i n d u s t r i a l and d e v e l o p i n g c o u n t r i e s i n the 1980s, c o n s i d e r a b l e a t t e n t i o n
has been p a i d l a t e l y i n the l i t e r a t u r e t o the s t u d y of the g r o w t h p a t h
of debt and the r e l a t i o n s between d e f i c i t s and d e b t . A t t e n t i o n has been
f o c u s e d on the d e t e r m i n a n t s of the pace of g r o w t h of the debt/GDP r a t i o
( h e r e i n a f t e r r e f e r r e d to as the debt r a t i o ) , and p o s s i b l e outcomes a r e
i n d i c a t e d d e p e n d i n g on the v a l u e s of the d e t e r m i n a n t s .
i n w o r k i n g out

- 19

the debt d y n a m i c s , the s t a r t i n g point i s the dynamic budget c o n s t r a i n t ,

w h i c h says t h a t at each point in time the change i n the s t o c k of p u b l i c
debt i s equal to n o n i n t e r e s t spending ( i n c l u d i n g t r a n s f e r s ) minus r e v e n u e s p l u s i n t e r e s t c h a r g e s on t h e e x i s t i n g s t o c k o f d e b t . T h a t i s ,

dB = G + B - T + rB = I) + r B
where B
G
B
T
D
r

Note:

Implicitly,

Equation

net

=
=
=
=
=
=

(1)

p u b l i c debt
g o v e r n m e n t s p e n d i n g on g o o d s and
transfers
revenues
p r i m a r y d e f i c i t , and
rate of i n t e r e s t

lending

( 1 ) c a n be w r i t t e n

services

i s t a k e n t o be z e r o .

i n terms of r a t i o s

db = g + h-t + ( r - y ) b = d

t o GDP

(r-y)b

as f o L l o w s :

(2)

where y i s t h e r a t e of g r o w t h of the economy and e v e r y v a r i a b l e o t h e r

t h e n r a n d y i s e x p r e s s e d a s a r a t i o t o GDP.
That i s , the change i n the
d e b t r a t i o i s e q u a l t o t h e p r i m a r y d e f i c i t t o GDP r a t i o p l u s t h e c u r r e n t
d e b t r a t i o t i m e s ( t h e a v e r a g e i n t e r e s t r a t e on d e b t m i n u s t h e g r o w t h
r a t e o f G D P ) . T h e g r o w t h o f GDP l o w e r s t h e d e b t r a t i o .
The i n t e r e s t on
t h e e x i s t i n g s t o c k of d e b t p l u s t h e p r i m a r y d e f i c i t a c t a s c o u n t e r
f o r c e s t e n d i n g to r a i s e the debt r a t i o .
With a constant primary d e f i c i t
t o GDP r a t i o , a c o n s t a n t g r o w t h r a t e a n d a c o n s t a n t i n t e r e s t r a t e , w i t h
t h e i n t e r e s t r a t e on d e b t l o w e r t h a n t h e g r o w t h r a t e , t h e d e b t r a t i o
w i l l g r o w a s y m p t o t i c a l l y and s t a b i l i z e a t an e q u i l i b r i u m l e v e l .
But,
a c c o r d i n g to several growth t h e o r i e s , i n the steady s t a t e , the growth
r a t e and t h e i n t e r e s t w o u l d become e q u a l , i n w h i c h c a s e , w i t h a p o s i t i v e
primary d e f i c i t , the debt r a t i o would c o n t i n u e to grow. T h i s i s a l s o
the case i f the i n t e r e s t rate i s h i g h e r than the growth rate.
In fact,
w i t h r > y, i f t h e r e i s a l r e a d y a s t o c k o f d e b t , e v e n w i t h a z e r o
p r i m a r y d e f i c i t , the i n t e r e s t burden would c o n t i n u o u s l y grow a l o n g w i t h
the debt r a t i o .
T h e r e w o u l d h a v e t o be p r i m a r y s u r p l u s e s h i g h e n o u g h t o
o f f s e t t h e d i f f e r e n c e between the i n t e r e s t r a t e and t h e g r o w t h r a t e , i f
the debt r a t i o i s nut to e x p l o d e .
I t i s , of c o u r s e , r e a l i z e d t h a t j u s t s t a b i l i z i n g t h e d e b t r a t i o
c a n n o t be a s u f f i c i e n t g o a l .
F o r one t h i n g , g i v e n t h e p a r a m e t e r s
i n v o l v e d , i t m i g h t t a k e d e c a d e s (or c e n t u r i e s ! ) b e f o r e t h e d e b t r a t i o
s t a b i l i z e s , a n d by t h a t t i m e , t h e r a t i o m i g h t h a v e r i s e n t o a v e r y h i g h
l e v e l . Of c o u r s e , e v e n b e f o r e s u c h a l e v e l c o u l d b e r e a c h e d , w i t h
i n c r e a s i n g d e f i c i t , the i n t e r e s t r a t e would p r o b a b l y r i s e and the g r o w t h

- 20 -

race f a l l , thus i n v a l i d a t i n g t h e s t a b i l i t y c o n d i t i o n . The g r o w i n g d e f i c i t would a l s o s p i l l over i n t o the balance of payments, increase the
c u r r e n t account d e f i c i t , and n e c e s s i t a t e a c t i o n l e a d i n g t o t h e c u r b i n g
o f i m p o r t s , a g a i n a d v e r s e l y a f f e c t i n g t h e g r o w t h r a t e . L e t us assume
that t h e debt r a t i o does g e t s t a b i l i z e d a t a m o d e r a t e l y h i g h l e v e l , s a y ,
b e t w e e n 80 a n d 6 0 p e r c e n t o f GDP. I n d e v e l o p i n g c o u n t r i e s , t h a t w o u l d
r e p r e s e n t a v e r y u n d e s i r a b l e s i t u a t i o n , because c o n t i n u i n g high debt
r a t i o w o u l d mean t h a t a l a r g e p a r t o f g o v e r n m e n t r e v e n u e s was b e i n g
used
to pay i n t e r e s t , and c o r r e s p o n d i n g l y ,
t h e t a x r a t i o w o u l d be q u i t e h i g h .
B e c a u s e t h e real, w o r l d t a x s y s t e m s , p a r t i c u l a r l y those i n d e v e l o p i n g
c o u n t r i e s , a r e d i s t o r t i o n a r y , a h i g h e r t a x r a t i o w o u l d mean g r e a t e r
a d v e r s e impact on t h e economy.
A l t e r n a t i v e l y , b o r r o w e d money w o u l d have
t o be u s e d t o p a y i n t e r e s t . T h i s w o u l d i m p l y a l o w e r r a t e o f s a v i n g i n
the economy than the p o t e n t i a l , given the p r o p e n s i t y t o save o f t h e
private sector.
As s t a t e d e a r l i e r , t h e r e would a l s o a r i s e t h e harmful
economic and the undesirable d i s t r i b u t i o n a l consequences of a high t a x
r a t i o used t o s e r v i c e i n t e r e s t payments.
Hence, b r i n g i n g about
condit i o n s t h a t w o u l d s t a b i l i z e t h e t a x r a t i o c a n o n l y be c o n s i d e r e d t h e
f i r s t stage of adjustment i n the stance of f i s c a l p o l i c y .
Growth i n the debt r a t i o causes alarm, p a r t l y because a growth i n
that r a t i o would lead to crowding out of p r i v a t e investment,
but mainly
because i t i s i m p l i c i t l y assumed that a l l , o r most, of t h e expenditure
by t h e G o v e r n m e n t o u t o f b o r r o w e d f u n d s i s n o t , o r w o u l d n o t b e ,
y i e l d i n g any d i r e c t or i n d i r e c t returns ( i . e . , the expenditure
w o u l d be
"unproductive").
Michael
P o s n e r ( 1 9 8 7 ) makes t h i s q u i t e e x p l i c i t when
he p o i n t s o u t t h a t t h e D o m a r p r o p o s i t i o n o n d e b t d y n a m i c s w a r n s us t h a t
the " a l l e g e d Keynesian cure f o r steady s t a t e s e c u l a r s t a g n a t i o n - - d e f i c i t
spending without
l i m i t on unproductive
c a p i t a l projects--may
n o t be
s u s t a i n a b l e " ( p . 397). It i s that part of public debt, the burden o f
s e r v i c i n g o f w h i c h f a l l s e n t i r e l y , o r m o s t l y , on t a x r e v e n u e s , w h i c h
s h o u l d c a u s e c o n c e r n , a n d it i s t h a t w h i c h s h o u l d b e i n c l u d e d i n d e b t
calculations.
T h u s , some o f t h e w r i t e r s s p e c i f i c a l l y t a k e n e t d e f i c i t
and n e t p u b l i c d e b t i n the i r c a l c u l a t i o n s ( e . g . , B u i t e r ( 1 9 8 5 ) a n d
C h o u r a q u i , e t a l (1990)) and i n c l u d e on t h e e x p e n d i t u r e
s i d e , goods and
services expenditure,
t r a n s t e r s and i n t e r e s t payments.
That i s , net
l e n d i n g i s excluded, and c o r r e s p o n d i n g l y , only borrowing
minus lending
i s t a k e n a s t h e s i z e of t h e d e f i c i t .
This g e n e r a l p r a c t i c e seems j u s t i f i a b l e , but c a r r i e s w i t h it t h e s u p p o s i t i o n t h a t G o v e r n m e n t ' s f i n a n c i a l
a s s e t s c a n be s e t o f f a g a i n s t government d e b t , s i n c e t h e budget h a s t o
b e a r the b u r d e n o f i n t e r e s t o n , a n d t h e s e r v i c i n g o f , o n l y t h e n e t
debt.
H o w e v e r , j u s t a s i t c a n n o t be a s s u m e d t h a t a l l p u b l i c d e b t i s
unproductive
o r " d e a d w e i g h t , " i t c a n a l s o n o t be t a k e n t h a t a l l f i n a n cial investments
by t h e Government w o u l d have c r e a t e d
remunerative
f i n a n c i a l assets which, taken together, would enable the Government to
s e r v i c e the c o r r e s p o n d i n g p a r t o f t h e d e b t o u t s i d e t h e b u d g e t .
Such a
s u p p o s i t i o n w i l l c e r t a i n l y be i n v a l i d i n r e l a t i o n t o G O I ' s i n v e s t m e n t s .
A g o o d p a r t of t h e d e b t i n c u r r e d h a s b e e n u s e d t o p r o v i d e
"budgetary
support"
t o p u b l i c e n t e r p r i s e s i n t h e f o r m of e q u i t y i n v e s t m e n t a n d
loans.
W h i l e s o m e of t h e e n t e r p r i s e s h a v e d o n e w e l l a n d e a r n e d
suffic i e n t , p r o f i t s , s e v e r a l o t h e r s h a v e e i t h e r e a r n e d low r e t u r n s of i n c u r r e d

- 21 -

losses.
I n some c a s e s , t h e c u m u l a t i v e l o s s e s h a v e e r o d e d t h e n e t
w o r t h 1/ F u r t h e r m o r e , some p o r t i o n o f l o a n s g i v e n c o n s t i t u t e s b a d d e b t ,
a n d t h e i n t e r e s t c h a r g e d on l o a n s i s g e n e r a l l y s i g n i f i c a n t l y l o w e r t h a n
t h e i n t e r e s t r a t e p a y a b l e by t h e G o v e r n m e n t on i t s b o r r o w i n g . L o a n s t o
s t a t e governments have been p a r t i a l l y , or f u l l y , r e s c h e d u l e d
repeatedly,
a n d some h a v e b e e n w r i t t e n o f f . In t h e s e c i r c u m s t a n c e s , t o t a k e t h e n e t
d e b t o f GOI as r e p r e s e n t i n g t h e L i a b i l i t i e s c h a r g e a b l e t o t h e b u d g e t
w o u l d be q u i t e m i s l e a d i n g .
H e n c e , we a r e u s i n g g r o s s d e b t f i g u r e s , b u t
t o g e t a m e a s u r e o f t h e n e t b u r d e n on t h e b u d g e t , we a r e a l s o s h o w i n g
n e t i n t e r e s t p a y m e n t s as p e r c e n t of n e t r e v e n u e s .
I t t h e a c c o u n t s of p u b l i c e n t e r p r i s e s a r e i n t e g r a t e d w i t h t h o s e o f
the g e n e r a l Government , the g r o s s debt f i g u r e f o r the Government w i l l
r e m a i n t h e same, but t h e s i z e of f i n a n c i a l i n v e s t m e n t s w i l l show a f a l l .
I n s t e a d o f t h e a c q u i s i t i o n o f some o f t h e f i n a n c i a l a s s e t s , t h e G o v e r n m e n t w i l l be s h o w n t o h a v e u n d e r t a k e n m o r e c a p i t a l f o r m a t i o n .
Since
we
a r e i n t e r e s t e d i n g r o s s d e b t f i g u r e s , a n d s i n c e t h e y w o u l d n o t be
a f f e c t e d by i n t e g r a t i o n o r n o n i n t e g r a t i o n , we h a v e d e s i s t e d f r o m i n t e g r a t i n g t h e a c c o u n t s of t h e n o n d e p a r t m e n t a l p u b l i c e n t e r p r i s e s w i t h
t h o s e of t h e g e n e r a l G o v e r n m e n t . T h e r e b y , we i n c i d e n t a l l y a v o i d d e a l i n g
w i t h t h e p r o b l e m s a r i s i n g f r o m i n t e g r a t i o n , s u c h a s how t o t r e a t t h e
r e t a i n e d p r o f i t s of t h e e n t e r p r i s e s .
I t may be a d d e d t h a t i f o n l y n e t
d e b t h a d b e e n t a k e n i n t o a c c o u n t , one w o u l d h a v e u n d e r e s t i m a t e d t h e
i m p a c t of t h e G o v e r n m e n t ' s b o r r o w i n g p r o g r a m , a s , i n I n d i a , a n o t
incons i d e r a b l e p o r t i o n o f t h e m o n e y r a i s e d by t h e G o v e r n m e n t f r o m t h e c a p t i v e
market at c o n t r o l l e d i n t e r e s t r a t e s , i s invested i n , or l e n t t o , p u b l i c
enterprises.
L e t us i g n o r e t h i s a s p e c t t o r a moment and a s s u m e t h a t t h e f i n a n c i a l i n v e s t m e n t s by t h e G o v e r n m e n t a r e y i e l d i n g r e t u r n s a t l e a s t s u f f i c i e n t t o m e e t i n t e r e s t c h a r g e s on t h e c o r r e s p o n d i n g p a r t o f b o r r o w i n g .
We c a n t h e n d e a l w i t h n e t d e b t . S u c h d e b t w i l l h a v e b e e n i n c u r r e d t o r
p u r p o s e s o t h e r t h a n p r o d u c t i v e f i n a n c i a l i n v e s t m e n t s . What a r e t h e
j u s t i t i a b l e p u r p o s e s for w h i c h G o v e r n m e n t c a n i n c u r n e t d e b t ? T h a t
is,
what i s the r o l e of debt f i n a n c i n g of p u b l i c e x p e n d i t u r e ? T h i s
question
has been r e p e a t e d l y a s k e d i n t h e l i t e r a t u r e , and d i f f e r i n g a n s w e r s h a v e
been g i v e n .
We w o u l d l i k e t o c o n s i d e r t h i s q u e s t i o n i n r e l a t i o n t o a
d e v e l o p i n g c o u n t r y with a l a r g e p u b l i c s e c t o r .
Debt f i n a n c i n g , i n a d d i t i o n
n e c e s s a r y o r j u s t i t i a b l e for t h e
lending):

t o s e i g n o r a g e , has been
considered
f o l l o w i n g p u r p o s e s ( a p a r t f r o m net

(a)
F o r s m o o t h i n g o u t tax r a t e s :
Nonremunerative c a p i t a l formaL i o n e x p e n d i t u r e i s o f t e n l u m p y i n c h a r a c t e r and f i n a n c i n g i t a l w a y s
t h r o u g h t a x a t i o n would i n v o l v e c o n s i d e r a b l e f l u c t u a t i o n s i n the r a t e s .
A p a r t from the inherent d i f f i c u l t i e s w i t h c o n s t a n t l y c h a n g i n g r a t e s , the
h i g h e r r a l e s m i g h t c a u s e l a r g e d i s t o r t i o n s . I t w o u l d t h e r e f o r e be
1/
and

Many l o s s - m a k i n g p r i v a t e e n t e r p r i s e s t a k e n o v e r by t h e
c o n v e r t e d to p u b l i c e n t e r p r i s e s f a l l i n t h i s c a t e g o r y .

Government

- 22 -

preferable to finance such c a p i t a l formation through debt. The debt may

be repaid during the l i f e of the asset, or a l t e r n a t i v e l y , an adequate
depreciation fund may be maintained for replacing the assets i n time.
(b) For macroeconomic s t a b i l i z a t i o n : D e f i c i t financing to counter
or cure recession, and unemployment of a c y c l i c a l nature has not been
quite successful i n the i n d u s t r i a l countries. Hence, a d i s c r e t i o n a r y
p o l i c y of augmenting public expenditure to be financed by debt seems to
be at a discount now.
Nevertheless, permitting a recession-induced
d e f i c i t might generally be advocated, or accepted, i f f u l l employment
revenues are shown to result i n a balance or surplus. In a developing
country in which exports form a large part of GDP, a s i z a b l e f a l l i n
export demand could cause a f a l l i n economic a c t i v i t y and revenues.
In
India, however, export f l u c t u a t i o n s would not have a large impact on
revenues.
D e f i c i t financing to counter, or to tide over, a recession
has no role i n f i s c a l policy there.
(c)
For financing part of war or other emergency expenditure: A
good part of war expenditure might have to be financed through borrowing
because of economic and p o l i t i c a l , and even moral reasons. War finance
has played only a n e g l i g i b l e part in the growth of the debt r a t i o in
independent India and, therefore, we need not discuss t h i s question in
d e t a i l . It may be pointed out, however, that debt contracted for financing a war represents deadweight debt and, as such, i t s burden must be
liquidated or reduced through growth and repayment.
(d) For meeting part or whole of categories of current expenditure
which, while not leading to physical c a p i t a l formation, r e s u l t s i n human
c a p i t a l formation, or has favorable impact on p r o d u c t i v i t y : One view i s
that a l l current expenditure on goods and services ( i n the national
accounting sense) of the Government should be met out of revenues.
This
is based on the argument or supposition that such expenditure i s i n the
nature of public consumption. Transfers, including subsidies, are i n
the nature of negative taxes designed to bring about r e d i s t r i b u t i o n , and
must be met out of revenues.
Net interest payments do not lead to any
current creation of assets and represent postponed payment for benefits
received in the past, and should a l s o , therefore, be met out of revenues. For intergenerational equity reasons, as well as on economic
grounds, the buildup of debt due to subsidies and i n t e r e s t payments,
should be avoided. This much might be generally agreed to. But as
regards current expenditure on goods and services, i t could be argued
that, while as a general r u l e , recurrent expenditure on defense, law and
order, and general a d m i n i s t r a t i o n should be met out of revenues, c e r t a i n
types of current expenditures leading to the creation of s o c i a l c a p i t a l ,
and having a favorable impact on the economy, could be met out of debt
finance, though in the national accounting sense, these expenditures
could not be c l a s s i f i e d as c a p i t a l . Examples of such expenditure are
additional educational expenditure on extending education to more
students, and new a g r i c u l t u r a l extension services. Since the expenditures w i l l be recurrent, i n course of time, they must be met out of

- 23 -

revenues. As a rule of thumb, one could specify a certain proportion of

recurrent expenditure on education, health, extension services, etc.,
which could be met out of borrowing by the Government.
(d) Apart from the above purposes, the Government could borrow for
remunerative c a p i t a l formation by the Government and for lending and
equity investments: The Government i n a developing country could play a
useful role, to an extent, as a f i n a n c i a l intermediary helping to channel investment to p r i o r i t y areas. Some of the lending may be at subsidized rates of interest to help weaker sections. A l l other lending and
equity investment should, as a general rule, earn adequate returns to
meet the interest charges on the corresponding debt, and to amortize the
debt. S i m i l a r l y , the Government's own investment i n departmental undertakings should yield s u f f i c i e n t returns. Debt incurred for these purposes would be backed-up assets, and to that extent, need not be counted
as net debt.
It follows from the preceding discussion of the role of debt financing that the ultimate objective toward which p o l i c i e s for correcting
the present f i s c a l stance should be oriented i s to approach the ideal
s i t u a t i o n i n which (a) revenues w i l l meet subsidies, other transfers,
interest payments, and the greater part of current expenditure, and debt
finance w i l l be used for meeting Government's nonremunerative c a p i t a l
formation, a proportion of current expenditure designed to increase
s o c i a l c a p i t a l and productivity, and the requirements of f i n a n c i a l
investments; and (b) the t o t a l of domestic borrowing w i l l be determined
in such a way that, given the rate of domestic savings, the nongovernment sector w i l l be able to obtain a due share of saving and that there
w i l l not be need to borrow from the Central Bank more than the correct
amount of seignorage.
If these rules are observed, and i f the growth of the economy i s
commensurate with investments being undertaken, the net interest to GDP
ratio should not be r i s i n g . The growth of public debt ( i . e . , the d e f i c i t ) w i l l arise only through government investments and other incomeraising expenditures having positive impact on growth.
The f i n a l goal of reform i s not a size of d e f i c i t equal to interest
payments, but one which would not be more than the t o t a l of the three
categories of capita 1 or income-raising expenditures mentioned above.
If the rate of savings in the economy i s constant, i n order that the
nongovernment sector may be assured of a d e f i n i t e share of savings, the
net borrowings by the Government may be kept constant as a percent of
increase i n GDP.

- 24 -

Then, B =

xWY

where B = borrowing by Government (budget d e f i c i t )

Y = GDP, and
x = the constant proportion of WY
borrowed by Government

which i s

So, B/Y = x WY/Y

In a steady state, when WY/Y i s constant, B/Y, or the proportion
of government borrowing to GDP, w i l l remain constant. I f the rate of
growth of the economy i s accelerating, B/Y w i l l increase. Then, i f
necessary, the value of x can be reduced by discretionary policy action.
Corrective action with regard to the burgeoning (internal) public
debt of GOI must be carried out i n two stages. In the f i r s t stage,
action must be directed toward slowing down the pace of growth of the
debt r a t i o . In the second stage, attempts must be made, through the
needed adjustments i n the revenue and expenditure p o l i c i e s , to contain
most revenue expenditures within the revenues raised, so that Government's net borrowing i s used only f o r the "productive" purposes i n d i cated e a r l i e r .
7.

Growth of debt--scenario under Assumption I I

While the primary d e f i c i t to GDP r a t i o has not been r i s i n g much

during the l a s t f i v e years (except f o r 1989/90), the r a t i o of t o t a l
borrowing to GDP has been steadily growing. We found that the past rate
of growth of domestic borrowing was not sustainable. We now assume that
the ratios of t o t a l domestic borrowing and t o t a l borrowing to GDP w i l l
be kept constant, and trace the growth of debt r a t i o and interest to GDP
ratio.
Under t h i s assumption, the domestic debt r a t i o rises from 47.9 percent i n 1989/90 to 60.1 percent i n 2000/01, and the t o t a l debt r a t i o ,
from 60.2 percent to 67.9 percent (Table 2). There i s a noticeable
deceleration i n the rate of growth of debt; however, projections beyond
the year 2000/01 indicate that the debt r a t i o would continue to grow
even beyond 2010/11, although at a very slow pace. The brunt of this
deceleration w i l l f a l l on the primary d e f i c i t to begin with. Given the
assumptions about the growth rate and the interest rate, i f t o t a l
borrowing i s to be kept constant as percent of GDP, primary d e f i c i t w i l l
have to f a l l from 3.7 percent of GDP in 1989/90 to 2.2 percent i n
2000/01, while interest payments would r i s e from 3.9 percent to 5.5 percent of GDP during the same period (Tables 9 and 3). Since the r a t i o of
domestic borrowing to GDP i s kept constant, there would be much less
crowd ing out of private investment, and i t would he easier to keen the
amount of borrowing from the RBI within proper l i m i t s . I f the rate of

- 25 -

s a v i n g goes up g r a d u a l l y from 21 p e r c e n t of GDP to 23 percent by

2000/01, t h e r e would be a steady f a l l i n the p r o p o r t i o n of d o m e s t i c
s a v i n g a b s o r b e d by Government's domestic b o r r o w i n g - - f r o m 33.2 p e r c e n t i n
1989/90 to 30.3 p e r c e n t i n 2000/01 ( T a b l e 8 ) . T h i s i s a s c e n a r i o very
f a v o r a b l e to growth and s t a b i l i t y p r o v i d e d the p r i m a r y d e f i c i t i s
reduced by c u t t i n g m a i n l y n o n e s s e n t i a l e x p e n d i t u r e , u n j u s t i f i e d subs i d i e s , and u n p r o d u c t i v e f i n a n c i a l i n v e s t m e n t s , w i t h o n l y a m a r g i n a l
r e d u c t i o n i n p u b l i c s e c t o r c a p i t a l f o r m a t i o n i n key i n f r a s t r u e t u r a l
sectors.

T a b l e 9.

Year

1989/90
1990/91
1991/92
1992/93
1993/94
1994/95
1995/96
1996/97
1997/98
1998/99
1999/00
2000/01

India:

P r i m a r y D e f i c i t as a Percent of

Assumption I

3.70
3.90
4.15
4.50
4.89
5.39
5.96
6.65
7.47
8.44
9.61
10.99

GDP

Assumption II

3.70
3.41
3.20
3.04
2.87
2.75
2.63
2.51
2.42
2.34
2.27
2.20

To b r i n g a b o u t s u c h a r a d i c a l c h a n g e i n t h e r a t e o f g r o w t h o f t h e
d e b t r a t i o , as i s i m p l i e d i n t h e a s s u m p t i o n , o f a f r e e z i n g of t h e
b o r r o w i n g t o GDP r a t i o , t h e axe w o u l d have t o f a l l h e a v i l y on
Government's n o n i n t e r e s t e x p e n d i t u r e t o g e t h e r w i t h a t t e m p t s t o i n c r e a s e
the tax r a t i o .
F o r t h e p u r p o s e o f o u r p r o j e c t i o n s , we have assumed t h a t
t h e t o t a l d e f i c i t i n 1989/90 was o n l y 7.6 p e r c e n t o f GDP.
On t h a t
a s s u m p t i o n , t h e p r i m a r y d e f i c i t i n t h a t y e a r w o r k s out t o be 3.7 p e r c e n t
off GDP.
In f a c t , i t was 4.6 p e r c e n t o f GDP.
A r e d u c t i o n of t h i s l e v e l
of p r i m a r y d e f i c i t t o 2.1 p e r c e n t o f GDP by 2000/01 m i g h t be c o n s i d e r e d
t o o d i f f i c u l t a t a s k , even i f t h e p o l i t i c a l w i l l f o r p o l i c y c h a n g e s was
f o r t h c o m i n g . We s h a l l t h e r e f o r e c o n s i d e r a few a l t e r n a t i v e s r e q u i r i n g
l e s s s e v e r e a c t i o n on t h e p a r t o f t h e G o v e r n m e n t .

- 26 -

8.

Maintaining a constant proportion of primary d e f i c i t

t o GDP

Over t h e t h r e e years p r e c e d i n g 1989/90, t h e r a t i o o f p r i m a r y d e f i c i t t o CDF h a d n o t b e e n r i s i n g .

The r e was a s i g n i f i c a n t a n d s u d d e n r i s e
i n t h e r a t i o i n 1 9 8 9 / 9 0 . T h e l e a s t t h a t t h e G o v e r n m e n t c o u l d be a s k e d
to do i s t o m a i n t a i n t h e r a t i o around t h e l e v e l p r e v a i l i n g b e f o r e t h e
jump i n 1 9 8 9 / 9 0 . We a s s u m e t h a t t h e p r i m a r y d e f i c i t w i l l be c o n t a i n e d
a t 3.5 p e r c e n t o f GDP, a n d p r o j e c t t h e g r o w t h o f d e b t a n d r e l a t e d
f i g u r e s through 2010/11.
F o r t h e p r o j e c t i o n of debt a n d i n t e r e s t p a y m e n t s , t h e f o l l o w i n g i d e n t i t i e s were used:
T h e d e b t a t t h e e n d of a g i v e n y e a r ( B t + 1 )
the previous year (Bt) plus the primary d e f i c i t
the t o t a l i n t e r e s t i n the year (t+1).

= t h e d e b t a t t h e e n d of
of the year (t+1) plus

T h e t o t a l i n t e r e s t i n t h e y e a r ( I t + 1 ) = t h e i n t e r e s t pa i d i n y e a r t
on d e b t o u t s t a n d i n g at t h e e n d o f y e a r ( t - 1 ) p l u s t h e i n t e r e s t o n t h e
i n c r e m e n t i n debt between t h e end of y e a r s t and t - 1 p l u s a d d i t i o n a l
i n t e r e s t o n c o n v e r s i o n . S i n c e we h a v e d e b t a n d i n t e r e s t f i g u r e s f o r t h e
y e a r s 1 9 8 8 / 8 9 a n d 1 9 8 9 / 9 0 , we a r e a b l e t o d e r i v e t h e d e b t a t t h e e n d o f
1 9 9 0 / 9 1 . We t h e n make t h e a s s u m p t i o n a s b e f o r e t h a t b o r r o w i n g f r o m R B I
and e x t e r n a l b o r r o w i n g w o u l d r e m a i n c o n s t a n t a s a p r o p o r t i o n o f n o m i n a l
GDP.
D e d u c t i n g t h e s e t w o f i g u r e s f r o m t h e t o t a l d e b t we o b t a i n t h e
a m o u n t o f d e b t owed t o o t h e r d o m e s t i c s e c t o r s i n 1 9 9 0 / 9 1 . W i t h t h i s
b r e a k d o w n , i t b e c o m e s p o s s i b l e to w o r k o u t t h e a d d i t i o n a l i n t e r e s t o n
t h e i n c r e m e n t i n debt between 1990/91 and 1989/90 i n o r d e r t o c a l c u l a t e
the i n c r e a s e i n i n t e r e s t payments i n 1991/92, and so o n . The f i g u r e s of
a d d i t i o n a l i n t e r e s t on c o n v e r s i o n w e r e s e p a r a t e l y w o r k e d o u t i n c o n n e c t i o n w i t h t h e e x e r c i s e under Assumption I .
In s y m b o l s ,

t h e f o r m u l a used i s :

where

=
=
=
=
=
=

It

B
I
A1
KB
F
ODD

i s a ssunied

t o t a l debt
total interest
a d d i t i o n a l i n t e r e s t on c o n v e r s i o n
debt owed t o RBI
e x t e r n a l d e b t , and
debt owed t o o t h e r d o m e s t i c s e c t o r s
that

r1

= . 04 76
r2 = . 0 5 7 6
r3 = . 1 1 8 9 ( t h e

average

tor

1989/90)

- 27 -

The projection i s given i n Table 10. I t i s seen that the debt

r a t i o builds up rapidly, though not as fast as under Assumption I. By
2000/01, the debt r a t i o would have risen to 77.4 percent and by 2010/11,
to 96 percent. Since the average rate of interest keeps r i s i n g (because
the marginal rate i s higher than the average r a t e ) , the debt r a t i o w i l l
not s t a b i l i z e . We note that the interest payments r i s e from 3.9 percent
of GDP i n 1989-90 to 6.4 percent by 2000-01, and to 8.4 percent i n
2010/11. Correspondingly, the t o t a l d e f i c i t rises from 7.6 percent of
GDP i n 1989/90 to 9.9 percent i n 2000/01, and to 11.9 percent i n
2010/11.
It i s clear that keeping the primary d e f i c i t constant at 3.5 percent of GDP i s not a viable policy option even with a 5.5 percent annual
growth of real GDP.
In f a c t , i n view of the rather precarious balance
of payments s i t u a t i o n , p a r t i c u l a r l y after the r i s e i n o i l prices i n
1990, imports might be curbed with adverse effect on the growth rate.
An annual growth rate of GDP of 5.5 percent, i t seems, can no longer be
safely assumed for the Eighth Plan (1990/91-1994/95). I t would be
preferable to ad just the f i s c a l stance to cope with a somewhat lower
growth rate of the economy.
Table 11 traces the growth of debt r a t i o and the movement of the
ratio of interest to GDP from 1989/90 through 2010/11 on the assumption
that the primary d e f i c i t would be brought down to 2.5 percent of GDP
immediately, and be maintained at that l e v e l . It i s seen that the t o t a l
d e f i c i t reaches only 7.8 percent of GDP by 2000/01, of which interest
would account for 5.3 percent. Of the t o t a l d e f i c i t , domestic borrowing
would account for 7.37 percent of GDP, which would form only 32 percent
of gross domestic saving i f the l a t t e r grows as postulated e a r l i e r . A l l
these would be acceptable goals of the f i r s t - s t a g e adjustment, but immediate reduction of primary d e f i c i t r a t i o to 2.5 percent of GDP would be
considered i n f e a s i b l e .
Our exercises show that a policy of maintaining a constant primary
d e f i c i t r a t i o would not be sustainable unless, indeed, the r a t i o i s
f i r s t s u f f i c i e n t l y reduced. Although the arithmetic of debt dynamics
shows that the debt ratio would s t a b i l i z e with a constant primary
d e f i c i t r a t i o i f the interest rate i s lower than the growth rate, the
date of achieving a stable r a t i o i s pushed forward i f the gap between
the growth rate and the interest rate i s being narrowed. If a considerable stock of debt ( i n terms of r a t i o to GDP) has already been b u i l t up,
even with a constant primary d e f i c i t r a t i o and interest rate i t would
take a very long time before the debt ratio s t a b i l i z e s . We assumed a
primary d e f i c i t r a t i o of 3 percent of GDP and a constant average rate of
interest of 8.57 percent (the base year average), with a 12 percent rate
of growth. With these assumptions i t was found that the debt r a t i o
would continue to grow u n t i l the year 2109/10, when i t would reach
79.0 percent I

1988/89
1989/90
1990/91
1991/92
1992/93
1993/94
1994/95
1995/96
1996/97
1997/98
1998/99
1999/00
2000/01
2001/02
2002/03
2003/04
2004/05
2005/06
2006/07
2007/08
2008/09
2009/10
2010/11

Year

5,393
6,607
7,407

1,857
2,087
2,345
2,633
2,956
3,318
3,723
4,177
4,686
5,255

1,469
1,652

1,028
1,159
1,305

912

808

715

42,208

32,178
36,863

28,073

3,311
3,845
4,459
5,165
5,976
6,907
7,976
9,201
10,605
12,214
14,055
16,163
18,573
21,328
24,477

1,755

2,099
2,447
2,848

518

Total
Internal
Debt
BI(t)

632

Treasury
Bills
Debt
RB(c)

Deficit/GDP
Net foreign borrowing/GDP
New Treasury bills/GDP

Ratios

Interest rates
Other domestic debt
Treasury
bills
Foreign debt

Parameter Table

1,236
1,467
1,732
2,041
2,400
2,816
3,300
3,860
4,507
5,255
6,118
7,114
8,260
9,580
11,099
12,845
14,850
17,151
19,791
22,818
26,285
30,256
34,801

Other
Domestic
Debt
MB(t)

3,144

2,317
2,562
2,837

1,902
2,098

1,010
1,098
1,198
1,308
1,433
1,572
1,728

741
798
861
931

606
646
691

468
539
571

Total
External
Debt
F(t)

0.0350
0.0065
0.0169

0.1189
0.0476
0.0317

45,353

2,638
3,018
3,455
3,958
4,536
5,200
5,962
6,836
7,838
8,986
10,290
11,803
13,522
15,488
17,735
20,301
23,231
26,575
30,390
34,740
39,700

2,223

Total
Debt
B(t)

0.46
0.37
0.43
0.03
0.54
0.72

0.17
0.45
0.33
0.54
0.76
0.28

0.45
0.60
0.38
0.40
0.37
0.52
0.22
0.27
0.30

3,030
3,481
3,996

837
970
1,122
1,297
1,497
1,727
1,990
2,291
2,636

337
394
460
535
622
722

288

245

208

172

Total
Interest
I(t)

4,381
4,907
5,495
6,155
6,894
7,721
8,647
9,685
10,847
12,149
13,607
15,239
17,068
19,116
21,410
23,980
26,857
30,080
33,690
37,732
42,260
47,331

GDP
Y(t)

9.10
9.22
9.32
9.42
9.51
9.59
9.67
9.74
9.80
9.86
9.92
9.97
10.02
10.07
72.3

81.0
82.8
84.7
86.5
88.3
90.2
92.1
93.9
95.8

75.7
77.4
79.2

74.0

7.75
7.88
8.12
8.32
8.51
8.68
8.84
8.97

Average
Interest
Rate

60.2
61.5
62.9
64.3
65.8
67.4
68.9
70.6

Total Debt
to GDP
R(t)/Y(t)

Simulated Debt:GDP Ratio

(In b i l l i o n s of rupees)

India:

Replacement
Interest

Table 10.

10.1
10.3
10.5
10.7
10.9
11.1
11.3
11.5
11.7
11.9

9.0
9.2
9.4
9.7
9.9

8.2
8.4
8.6
8.8

7.7
8.0

Net
Borrowing
to GDP

3.934
4.237
4.457
4.672
4,887
5.100
5.315
5.525
5.736
5.946
6.154
6.365
6.574
6.783
6.994
7.201
7.409
7.617
7.824
8.030
8.236
8.443

Interest
to GDP

1988/89
1989/90
1990/91
1991/92
1992/93
1993/94
1994/95
1993/96
1996/97
1997/98
1998/99
1999/00
2000/01
2001/02
2002/03
200 3/04
2004/05
2005/06
2006/07
2007/08
2008/09
2009/10
2010/11

Year

6,607
7,407

518
632
715
808
912
1,028
1,159
1,305
1,469
1,652
1,857
2,087
2,345
2,633
2,956
3,318
3,723
4,177
4,586
5,255
5,893

Treasury
Bills
Debt
RB(t)

2,099
2,398
2,739
3,127
3,569
4,073
4,647
5,300
6,04 2
6,887
7,846
8,937
10, 176
11,585
13,184
15,001
17,063
19,403
22,059
25,072
23,489
32,366

1,755

Total
Internal
Debt
BI(t)

Net foreign borrowing/GDP

New Treasury b i l l s / G D P

Deficit/GDP

Ratios

Interest rates
Other domestic debt
Treasury b i l l s
Foreign debt

Parameter Table

1,236
1,467
1,683
1,931
2,215
2,541
2,915
3,342
3,831
4,390
5,029
5,759
6,592
7,543
8,628
9,866
11,277
12,885
14,717
16,804
19,179
21,382
24,959

Other
Domestic
Debt
MB(t)

2,317
2,562
2,837
3,144

1,010
1,098
1,198
1,308
1,433
1,572
1,728
1,902
2,098

606
646
691
741
798
861
931

539
571

468

F(L)

Total
External
Debt

0.0250
0.0065
0.0169

0.1189
0.0476
0.0317

2,223
2,638
2,969
3,345
3,773
4,261
4,815
5,445
6,160
6,973
7,897
8,945
10,134
11,485
13,017
14,756
16,728
18,965
21,501
24,376
27,634
31,326
35,510

Total
Debt
B(t)

(In

0.45
0.60
0.38
0.40
0.37
0.52
0.22
0.27
0.30
0.17
0.45
0.33
0.54
0.76
0.28
0.46
0.37
0.43
0.03
0 . 54
0.72

--

172
208
239
275
315
361
414
474
542
620
708
809
924
1,055
1,204
1,373
1,565
1,784
2,033
2,315
2,636
3,001

Total
Interest
L(t)

4,381
4,907
5,495
6,155
6,894
7,721
8,647
9,685
10,847
12,149
13,607
15,239
17,068
19,116
21,410
23,980
26,857
30,080
33,690
37,732
42,260
47,331

Y(t)

GDP

60.2
60.5
60.9
61.3
61.8
62.4
63.0
63.6
64.3
65.0
65.7
66.5
67.3
68.1
68.9
69.8
70.6
71.5
72.4
73.2
74.1
75.0

T o t a l Debt
to GDP
B(t)/Y(t)

Simulated Debt:GDP Ratio

b i l l i o n s of rupees)

India:

Replacement
Interest

Table 11.

7.75
7.88
8.05
8.21
8.35
8.47
8.59
8.70
8.79
8.88
8.96
9.04
9.11
9.18
9.25
9.30
9.36
9.41
9.45
9.50
9.54
9.58

Average
Interest
Rate

8.7
8.8

7.1
7.2
7.3
7.4
7.5
7.6
7.7
7.8
7.9
8.0
8.1
8.2
8.3
8.4
8.5
8.6

7.0

6.9

6.7

Net
Borrowing
to GDP

3.934
4.237
4.351
4.460
4.569
4.676
4.785
4.890
4.995
5.099
5.203
5.308
5.412
5.516
5.622
5.725
5.828
5.931
6.033
6.135
6.237
6.340

--

Interest
to GDP

- 30 -

It follows from the discussion i n this section that given the large
stock of debt that already e x i s t s , the unavoidable rise i n the average
rate of interest and the p o s s i b i l i t y of the medium term growth rate of
the economy f a l l i n g below 5.5 percent, a f a l l i n g primary d e f i c i t ratio
has to be the goal of f i s c a l policy. 1/ The process of reduction has to
be gradual, but the degree of annual reduction has to be s u f f i c i e n t to
keep the growth of the debt ratio within reasonable bounds. I t i s
suggested that the Government should aim at such a f a l l , or reduction of
the primary d e f i c i t r a t i o , that i t could reach 2.5 percent by the year
2000/01. Table 12 shows how the debt ratio and the interest burden
would grow i f such a rate of reduction of the primary d e f i c i t were
brought about. I t should be possible within this period of ten years to
eliminate what might he called "unproductive" borrowing. We note that
the t o t a l d e f i c i t ratio would rise only to 8.4 percent of GDP by 2000/01
which could be accommodated i f there was rise in the domestic saving
rate to 23 percent of GDP.
If the entire, or most, of the primary
d e f i c i t of 2.5 percent of GDP were devoted to capital formation and
lending, and i f the return on investment was adequate, this level of
primary d e f i c i t could be continued for a few years without any relative
rise i n the net interest burden. I t might also be possible during this
period to reduce the proportion of credit from RBI to GDP. Thereafter,
the whole situation could be reviewed, and measures to implement the
second stage of adjustment could be formulated. We s h a l l now consider
the measures immediately needed to reduce the primary d e f i c i t r a t i o .
9.

Measures to reduce the primary d e f i c i t ratio

The primary d e f i c i t ratio could be reduced by the following

categories of measures:
(a)

raising the income e l a s t i c i t y of the taxes;

(b)

increasing fees and user charges commensurately with increases

in the nominal costs of performing services not in the nature
of pure public goods;

(c)

reducing the rate of growth of current expenditure;

(d)

s t a b i l i z i n g the ratios to GDP of government capital formation

and of current expenditure directed to augment the level of
social c a p i t a l ;

(e)

increasing the return to net lending by Government;

(f)

reducing the scale of net lending to, and investment i n ,

public enterprises; and

(g)

d i r e c t l y reducing the interest

burden on the budget.

1/ See also Tanzi (1990), for a discussion on how to determine the

degree of f i s c a l adjustment.

1988/39
1989/90
1990/91
1991/92
1992/91
1993/94
1994/95
1995/96
1996/97
1997/98
1998/99
1999/00
2000/01

Year

ratios

1,028
1,159
1,305
1,469
1,652
1,857
2,087
2,345

808
912

715

518
632

1,755
2,099
2,447
2,843
3,293
3,803
4,381
5,035

Total
Internal
Debt
BI(t)

5,773
6,604
7,539
8,590
9,769

Treasury
Bills
Debt:
RB(t)

0.1189
0.0476
0.0317

Other
Domestic
Debt
MB(t)

2,775
3,223
3,730
4,304
4,952
5,682
6,503
7,425

1,010
1,098
1,198

931

606
646
691
741
798
861

539
571

468

2,223
2,638
3,018
3,449
3,939
4,495
5,123
5,833
6,633
7,535
8,549
9,689
10,967

Total
External
Debt
F(t)
Total
Debt
R(t)

India:

Replacement
Interest

897

172
208
245
287
335
389
450
520
598
686
786

--

GDP
Y(t)

4,381
4,907
5,495
6,155
6,894
7,721
8,647
9,685
10,847
12,149
13,607
15,239

Total
Interest
I(t)

60.2
61.5
62.8
64.0
65.2
66.4
67.5
68.5
69.5
70.4
71.2
72.0

T o t a l Debt
to GDP
B(c)/Y(t)

Simulated Debt:GDP Ratio

(In b i l l i o n s of rupees)

0.45
0.60
0.38
0.40
0.37
0.52
0.22
0.27
0.30
0.17
0.45

Declines from .035 to .025

from the year 1990/91-2000/01
0.006 5
0.0169

1,236
1,467
1,732
2,035
2,381

Net foreign borrowing/GDP

New Treasury bills/GDP

Deficit/GDP

Interest rates
Other domestic debt
Treasury b i l l s
Foreign debt

Parameter Table

Table 12.

7.75
7.88
8.12
8.32
8.50
8.65
8.79
8.91
9.02
9.11
9.19
9.26

Average
Interest
Rate

7.7
7.9
8.0
8.1
8.1
8.2
8.3
8.3
8.3
8.4
3.4

Net
Borrowing
to GDP

3.934
4.237
4.457
4.662
4.855
5.037
5.209
5.366
5.513
5.649
5.773
5.388

Interest
to GDP

- 32 -

(a)
In the context of the f i s c a l trends in India, and of the low
income of the majority of the people, emphasis has to be placed now more
on reducing the growth of current expenditure of the Government than on
r a i s i n g the rate of growth of revenues. It i s not that revenues have
not been growing with the growth i n income. Over the period 1974/75
through 1986/87, the revenues of the central and state governments
increased at an annual rate of 14.5 percent in nominal terms ( i n real
terms 8.4 percent); during the same period, the revenue expenditures
increased at 17 percent per annum i n nominal terms ( i n real terms,
10.3 percent). The average real growth rate of GDP during the period
was 4.6 percent.
This i s not to say that no attempt needs to be made to raise the
growth rate of tax revenues. In the past, the income e l a s t i c i t y of the
revenues has been near u n i t y .
Frequent increases i n the rates of taxes
and changes in the d e f i n i t i o n of bases were resorted to f o r r a i s i n g the
buoyancy of the tax system. The tax system needs to be r a t i o n a l i z e d and
s i m p l i f i e d and the enforcement considerably strengthened to improve the
b u i l t - i n e l a s t i c i t y to at least 1.1 by the end of the Eighth Plan

(1994/95).
(b) The c o s t of p r o v i d i n g many s e r v i c e s , p r o v i s i o n o f h i g h e r educ a t i o n , i s s u e o f l i c e n s e s , r e g i s t r a t i o n , m a i n t e n a n c e o f p a r k s , e t c . , has
gone up, w h i l e the u s e r c h a r g e s have remained f a i r l y s t a g n a n t .
It i s
g e n e r a l l y a r g u e d , t h e r e f o r e , t h a t the u s e r c h a r g e s must be r a i s e d f o r
most o f such s e r v i c e s . To be s u r e , i t would be n e c e s s a r y t o do s o , b u t
a t t e m p t s s h o u l d a l s o be made t o reduce the c o s t o f p e r f o r m i n g s e r v i c e s
t h r o u g h i n c r e a s e d e f f i c i e n c y and r e d u c t i o n o f s u r p l u s s t a f f .
More o f
t h i s i s found i n the d i s c u s s i o n below.
( c ) The main budget o f t h e GOI i s d i v i d e d i n t o Revenue and C a p i t a l
Account s. The main j u s t i f i c a t i o n f o r making such a d i s t i n c t i o n i s t h a t ,
under normal t i m e s , p u b l i c consumption l a r g e l y b e n e f i t i n g the c u r r e n t
g e n e r a t i o n s h o u l d be p a i d f o r on a pay-as-you-go b a s i s t h r o u g h c u r r e n t l y
r a i s e d t a x e s . However, some revenue e x p e n d i t u r e which i s d i r e c t e d
toward i n c r e a s i n g s o c i a l c a p i t a l would b e n e f i t f u t u r e t a x p a y e r s . T h i s
seems t o be the argument a g a i n s t a t t e m p t i n g a c l e a r - c u t d i v i s i o n between
revenue and c a p i t a l e x p e n d i t u r e . S i n c e the revenue e x p e n d i t u r e o f GOI
ma i n l y c o n s i s t s o f what might be p r o p e r l y l a b e l e d as p u b l i c c o n s u m p t i o n ,
s u b s i d i e s , t r a n s t e r s , and i n t e r e s t , i t would be c o r r e c t t o argue t h a t
revenue e x p e n d i t u r e must be more o r l e s s c o v e r e d by revenue r e c e i p t s .
T a b l e 13 shows the c o m p o s i t i o n of revenvie e x p e n d i t u r e of GOI and
their
r e s p e c t i v e r a t e s o f growth.
The budget c l a s s i f i c a t i o n has been
m o d i f i e d t o show s e p a r a t e l y nondevelopmental e x p e n d i t u r e , d e v e l o p m e n t a l
e x p e n d i t u r e , and g r a n t s . A l l s u b s i d i e s have been put t o g e t h e r u n l i k e i n
the budget.
We note that t o t a l revenue e x p e n d i t u r e grew around 20 p e r cent per annum i n nominal terms over the p e r i o d 1981-89 ( i . e . , a t
12.4 p e r c e n t i n r e a l t e r m s ) ; i n 1975-81, revenue e x p e n d i t u r e grew a t
14.5 p e r c e n t per year i n nominal terms ( i . e . , at 7.9 p e r c e n t i n r e a l

- 33 -

Table 13. India:

Growth in Revenue Expenditure of the Central Government

(Compund growth rates)

Growth Rates

-75

-89

-75-89

-75-81

-81-89

(In crores of rupees)

Revenue Expenditure: Nondevelopment
4,069.69

37,189.79

17.38

13.07

20.22

1,000.76
1,920.21
59.80
122.61
85.37
326.37
169.24
34.45

14,150.00
11,070.05
287.88
1,173.44
500.54
2,087.96
1,256.75
201.06

20.95
14.23
11.62
16.91
12.63
13.89
15.48
12.63

16.72
9.65
7.87
13.49
6.53
8.44
8.67
8.94

23.58
16.00
15.04
20.55
17.67
17.60
20.10
15.63

19.53
15.99

443.88
54.51

23.77
10.19

23.07
11.16

25.81
7.50

22.07

51.85

10.82

17.19

0.66

429.69

6,897.11

21.43

22.27

24.04

27.00

23.77

416.28

-15.37

295.00

2,200.00

15.80

16.35

19.68

134.69

1,420.11
3,250.00

17.75
37.90

16.43
37.50

18.06
42.01

822.46

9,422.90

16.94

16.18

19.13

17.52
18.31
20.46
17.00

11.80
10.89
9.44
11.63

22.37
27.31
33.05
19.89

517.69
640.92
83.73
85.69
318.25
261.51
1,536.49

13.56
18.21
16.08
42.65
18.67
17.91
15.47

13.11
6.42
16.87
23.16
18.93
18.06
27.29

15.77
21.24
12.29
55.50
22.73
19.41
14.42

b-6
b-7
b-8

461.70
(Social and community services)
149.36
(Education)
8.88
(Art and culture)
112.02
(Scientific services and research)
(Medical, public health, sanitatio n,
68.77
and water)
58.59
(Family welfare)
11.28
(Housing)
0.61
(Urban development)
22.06
(Broadcasting)
22.92
(Labor and employment)
96.80
(Agricultural and allied
128.52
services)***
17.81
(Water and power development)
99.79
(Transport and communication)
17 .84
(Public works)

5,248.87
2,131.81
116.52
984.85

1,528.30
240.45
758.53
110.26

17.91
16.84
15.79
14.94

19.13
13.50
18.98
3.33

19.34
13.82
12.50
24.39

(Self-balancing items)

3.75

9.68

-14.40

-20.42

18.46

881.62
497.92
278.65
105.05
26.36

7,736.61
1,360.51
3,096.71
2,979.19
51.00
375.90

17.08
6.85
17.27
29.26
0.84
24.17

18.27
-7.50
25.41
44.71
5.66
32.56

19.41
21.90
15.40
24.22
4.28
19.17

40.50

528.00
199.57

24.05
10.89

219.61
12.42

14.78
10.90

38.19

178.27
722.00
824.45

31.49

24.20

31.31

300.00

23.87

138.96

9.02

54,358.78

17.25

14.52

19.92

A.

Nondevelopnent expenditure (adjusted)

a-1
a-2
a-3
a-4
a-4-1
a-5
a-5-1
a-5-3
a-6
a-8
a-13

a-9
a-10
a-1
b-4-1
b-4-2
b-5

(Interest payments)
(Defence services, net)
(Organs of state)
(Fiscal services)
(Tax collection charges)
(Administrative services)
(Police)
(External affairs)
(Pension and other retirement
benefits)
(Assignments to local bodies)
(Grants to union terriotries,
nonplan)
Of which:
Subsidies
(Loss/subsidy on vegetable oils)
(Subsidy on controlled cloth)
(Subsidy to Food Corporation
of India)
(Subsidy to Cotton Corporation
of India)
(Others)
(Fertilizer subsidy)

Revenue Expenditure:
B.

Development expenditure (adjusted)

b-1
b-1-1
b-1-2
b-1-3
b-1-4
b-1-5
b-1-6
b-1-7
b-1-8
b-1-9
b-3

Grants
d
b-10-e
b-10
b-10-a
b-10-b
b-10-c
b-10-d
b-10-f
b-10-g
h-10-h
b-10-i
a-12
e

Developmental

(Statutory grants to states)

(Paln Grants)*****
(Grants to states/U.t.s.)
(for drought-prone area program)
(for rural water supply scheme)
(for rural roads)
(for gainful employment in
rural areas)
(for welfare of backward classes)
(as special central assistance
for SCs)
(toward special incentive scheme)
(Misc. grants to state/UTs)
(Grants to state for natural
calamities)**
(Adjustment on accounts of
differeces in figures)
(Total expenditure)

-63.76
5,713.76

34

t e r m s ) . Thus t h er a t e o f growth of e x p e n d i t u r e h a s c o n s i d e r a b l y a c c e l e r a t e d d u r i n g t h e 1 9 8 0 s . Among t h e t h r e e c a t e g o r i e s ,

nondevelopmental,
d e v e l o p m e n t a l , a n d g r a n t s , t h e h i g h e s t a c c e l e r a t i o n h a s been u n d e r n o n d e v e l o p m e n t a l e x p e n d i t u r e - - f r o m 13 t o 20 p e r c e n t .
The major causes f o r
t h e h i g h a c c e l e r a t i o n seem t o be t h e much h i g h e r r a t e s o f g r o w t h i n
i n t e r e s t payments and i n defense e x p e n d i t u r e i n t h el a t t e r p e r i o d .
D u r i n g t h e p e r i o d 1981-89, however, developmental e x p e n d i t u r e , nond e v e l o p m e n t a l e x p e n d i t u r e , a n d g r a n t s h a v e a l l g r o w n a t a b o u t t h e same
r a t e - - a r o u n d 20 p e r c e n t .
The r e l a t i v e s h a r e s of t h e m a j o r items o f
revenue e x p e n d i t u r e i n 1989/90 ( r e v i s e d e s t i m a t e s ) were as f o l l o w s :

The

Shares

o f M a j o r I t e m s of R e v e n u e E x p e n d i t u r e

Amount i n
Rs

1.
2.
3.
4.
5.
6.

I n t e r e s t payments
Defense
Developmental
expenditure
Grants
Subsidies
A d m i n i s t r a t i o n and
police
Total

billion

i n 1989/90

Percent of
Total

170.00
104.42

29.1
17.9

102.55
85.89

71.76

17.6
14.7
12.3

49.49

8.5

584.11

100.1

I f t h e p r i m a r y d e f i c i t r a t i o i s t o b e b r o u g h t d o w n , t h e g r o w t h of
a l l t h e a b o v e - m e n t i o n e d major c a t e g o r i e s o f n o n i n t e r e s t e x p e n d i t u r e must
be s l o w e d d o w n c o n s i d e r a b l y .
I f r e v e n u e s h a v e a n e l a s t i c i t y o f 1.1 a n d
i n c o m e g r o w s a t 12 p e r c e n t , r e v e n u e s w i l l g r o w a t 1 3 . 1 p e r c e n t . I n
order t ocreate a s i g n i f i c a n t impact on t h erevenue d e f i c i t , a n d through
t h a t o n t h e p r i m a r y d e f i c i t , i tw o u l d be n e c e s s a r y t o keep down t h e
g r o w t h r a t e of n o n i n t e r e s t r e v e n u e e x p e n d i t u r e t o a r o u n d 1 0 p e r c e n t p e r
annum.
S u c h a g o a l w o u l d c a l l for a d r a s t i c c h a n g e i n t h e d i r e c t i o n o f
p o l i c y a n d a whole new a p p r o a c h t obudget making, e x p e n d i t u r e p l a n n i n g
a n d c o n t r o l , a n d t h e r o l e of G o v e r n m e n t .
We s h a l l b r i e f l y i n d i c a t e t h e
k i n d s of c h a n g e s i n e x p e n d i t u r e p o l i c y t h a t h a v e t o b e b r o u g h t a b o u t .
(a)
W h i l e d e f e n s e e x p e n d i t u r e might have t o be a l l o w e d t o grow
w i t h GDP, i t i s w i d e l y f e l t t h a t m u c h r e m a i n s t o b e d o n e t o m a k e i t m o r e
cost-effective.
P e r f e a r of j e o p a r d i z i n g t h e s e c u r i t y o f t h e c o u n t r y ,
n o s y s t e m a t i c s t u d y of d e f e n s e e x p e n d i t u r e h a s b e e n u n d e r t a k e n . E x e r c i s e s m u s t n o w b e i n i t i a t e d to d e t e r m i n e w a y s o f m a k i n g d e f e n s e e x p e n d i t u r e more c o s t - e f f e c t i v e .

- 35 -

(b) The g r e a t e r part of e x p e n d i t u r e on a d m i n i s t r a t i o n and on

d e v e l o p m e n t a l items at the l e v e l of the C e n t r a l Government c o n s i s t s of
e x p e n d i t u r e on s t a f f . A n a l y s i s c a r r i e d out by the N i n t h F i n a n c e
Comm i s s i o n showed t h a t n o n s a l a r y revenue e x p e n d i t u r e ( o t h e r than i n t e r e s t
and s u b s i d i e s ) grows i n d i r e c t p r o p o r t i o n to e x p e n d i t u r e on s t a f f .
We
have noted e a r l i e r t h a t a d m i n i s t r a t i o n , p o l i c e , and development d e p a r t ments account f o r about 26 percent of revenue e x p e n d i t u r e (and 37 percent of n o n i n t e r e s t e x p e n d i t u r e ) . The growth of e x p e n d i t u r e under these
heads can be curbed i n s e v e r a l ways: ( i ) S i n c e t h e r e i s c o n s i d e r a b l e
o v e r s t a f f i n g i n most of the departments, t h e r e s h o u l d be a f r e e z e on
f r e s h r e c r u i t m e n t f o r the next f i v e years or so. There s h o u l d be
s t u d i e s to l o c a t e s u r p l u s s t a f f and r e l o c a t e them to undertake new
t a s k s , i f any.
( i i ) Government must shed some a c t i v i t i e s .
R e d u c t i o n of
c o n t r o l s and l i c e n s i n g would not o n l y be a boost to p r i v a t e i n i t i a t i v e ,
but a l s o b r i n g down s t a f f r e q u i r e m e n t s .
There are many o t h e r a c t i v i t i e s , such as r u n n i n g t r a d e f a i r s and c o n d u c t i n g f i l m f e s t i v a l s , which
can be l e f t to the nongovernment s e c t o r . ( i i i ) Each M i n i s t r y ( o t h e r
than Defense) must be asked to manage w i t h i n a 3.5 p e r c e n t i n c r e a s e i n
r e a l e x p e n d i t u r e . To a c h i e v e t h i s , the m i n i s t r i e s s h o u l d be encouraged
to g i v e up a c t i v i t i e s of the lowest p r i o r i t y a c c o u n t i n g f o r 10 percent
of t h e i r e x p e n d i t u r e . Thus, each m i n i s t r y , o t h e r than D e f e n s e , would be
r e q u i r e d t o f u l f i l l two c o n d i t i o n s : budget o n l y f o r a 3.5 percent
i n c r e a s e i n r e a l e x p e n d i t u r e and c o n t r i b u t e to the p o o l of s u r p l u s
staff.
( c ) S u b s i d i e s out of the GOI budget have grown a t 24 percent per
annum i n nominal terms d u r i n g 1981-89; f e r t i l i z e r s u b s i d y on domest i c a l l y - p r o d u c e d and imported f e r t i l i z e r grew at the r a t e of 42 perc e n t . It i s obvious t h a t the r a t e of growth w i t n e s s e d d u r i n g recent
years i s not s u s t a i n a b l e . I t i s welcome t h a t Government has a l r e a d y
taken a c t i o n to keep down the growth of s u b s i d i e s - - t h e amount of subs i d i e s budgeted f o r 1990/91 i s h a r d l y d i f f e r e n t from the r e v i s e d e s t i mate f o r 1989/90. The t h i n k i n g seems to be to t a r g e t food s u b s i d y
toward the poor and to e s t a b l i s h a dual market f o r f e r t i l i z e r .
These
would be s t e p s i n the r i g h t d i r e c t i o n .
In a d d i t i o n , i t c o u l d be examined i f the p r i c e of naphtha used as f e e d s t o c k can be j u s t i f i a b l y
reduced.
i f the poor are p r o t e c t e d through a s u b s i d y on f o o d , f e r t i l i z e r p r i c e s must be a l l o w e d i n course of time t o r e f l e c t c o s t s .
The c a t e g o r y of " o t h e r s u b s i d i e s " has a l s o grown at a h i g h r a t e .
In t h i s c a t e g o r y , i n t e r e s t s u b s i d y t o p u b l i c e n t e r p r i s e s amounted to
Rs 9.3 b i l l i o n i n 1989/90. Apart from the i n t e r e s t s u b s i d y , some p u b l i c
e n t e r p r i s e s r e c e i v e d s u b s i d y " f o r o t h e r p u r p o s e s " amounting to Rs 0.7
b i l l i o n so the t o t a l s u b s i d y to p u b l i c e n t e r p r i s e s amounted to Rs 10
billion.
The p o i n t to note i s t h a t these and o t h e r m i s c e l l a n e o u s
s u b s i d i e s have been growing s t e a d i l y . Most of them a r e not t a r g e t e d
toward the poor and need to be phased o u t .
(d) We now t u r n to c a p i t a l e x p e n d i t u r e which c o n s i s t s of government c a p i t a l f o r m a t i o n and net l e n d i n g . The growth of debt and of
i n t e r e s t burden w i l l be reduced i f borrowing f o r f i n a n c i n g c a p i t a l

- 36

e x p e n d i t u r e i s r e d u c e d , or i t p a r t o f the e x i s t i n g s t o c k of d e b t i s
l i q u i d a t e d . The b u r d e n of net i n t e r e s t payments w i l l be r e d u c e d i f t h e
p r o p o r t i o n of r a t i o of r e c e i p t s of i n t e r e s t and d i v i d e n d t o i n t e r e s t
payments i n c r e a s e s .
The manner of use o f borrowed f u n d s and r e c o v e r i e s of l o a n s ( t o t a l
c a p i t a l r e c e i p t s ) i n the y e a r s 1988/89 t h r o u g h 1990/91 i s shown i n
T a b l e 14. We s h a l l l o o k at the f i g u r e s f o r 1989/90 f o r w h i c h we have
r e v i s e d e s t i m a t e s and a l s o the n e c e s s a r y breakdown o f e x p e n d i t u r e .
N e a r l y 47 p e r c e n t of t h e t o t a l c a p i t a l r e c e i p t s was d e p l o y e d t o c o v e r
the r e v e n u e d e f i c i t and d e f e n s e c a p i t a l o u t l a y . A n o t h e r 3 p e r c e n t o f
the r e c e i p t s was g i v e n as l o a n s to p u b l i c e n t e r p r i s e s to c o v e r t h e i r
l o s s e s . T h u s , 50 p e r c e n t of c a p i t a l r e c e i p t s was spent t o r p u r p o s e s
o t h e r t h a n c a p i t a l f o r m a t i o n e x c e p t f o r a small p o r t i o n of c a p i t a l
format i o n t h a t might be c o n t a i n e d i n the r e v e n u e b u d g e t . The e x p e n d i t u r e f o r t h e s e p u r p o s e s b r i n g s no f i n a n c i a l r e t u r n t o t h e Government n o r
can i t be s a i d t o r a i s e the l e v e l of p r o d u c t i v i t y of the economy. Of
t h e o t h e r 50 p e r c e n t , 23.7 p e r c e n t went toward i n v e s t m e n t s i n p u b l i c
e n t e r p r i s e s , 7 p e r c e n t t o w a r d Government's own c a p i t a l f o r m a t i o n , and
17.8 p e r c e n t t o w a r d l o a n s to s t a t e s f o r p l a n o u t l a y . As a l r e a d y i n d i c a t e d , the f u n d s i n v e s t e d i n p u b l i c e n t e r p r i s e s and the l o a n s to t h e
s t a t e g o v e r n m e n t s do not b r i n g a d e q u a t e r e t u r n s , w i t h the r e s u l t t h a t
t h e g e n e r a l budget has t o bear a c o n s i d e r a b l e p a r t o f the c o r r e s p o n d i n g
i n t e r e s t b u r d e n . I t i s b e c a u s e of t h e s e r e a s o n s t h a t the volume o f
" u n p r o d u c t i v e " o r d e a d w e i g h t debt has been b u i l t up and t h e b u r d e n o f
net i n t e r e s t on the budget has grown. We c o n s i d e r below some ways o f
p r e v e n t i n g , o r at l e a s t s l o w i n g down, such g r o w t h .
( 1 ) I t i s not s u g g e s t e d h e r e t h a t the r e l a t i v e l e v e l of e x p e n d i t u r e on G o v e r n m e n t ' s own c a p i t a l f o r m a t i o n under the p l a n s s h o u l d be
r e d u c e d . However, i t i s n e c e s s a r y t o r e d u c e net l e n d i n g t o p u b l i c
e n t e r p r i s e s . In any c a s e , i t m i l i t a t e s a g a i n s t e f f i c i e n c y t h a t p u b l i c
e n t e r p r i s e s s h o u l d have a c c e s s t o f u n d s u n c o n d i t i o n a l l y w i t h o u t any l i n k
t o c r i t e r i a of p e r f o r m a n c e . P u b l i c e n t e r p r i s e s must be made t o compete
t o r f u n d s on t h e b a s i s o f t h e i r p e r f o r m a n c e , at l e a s t f o r a s u b s t a n t i a l
part o f t h e i r r e q u i r e m e n t s .
" B u d g e t a r y support" t o the i n v e s t m e n t o f
p u b l i c e n t e r p r i s e s must be c u t down e x c e p t p e r h a p s f o r the p u b l i c s e c t o r
c o a l c o m p a n i e s w h i c h a r e i n no p o s i t i o n now to go to t h e m a r k e t . I t i s
s u g g e s t e d t h a t a w i n g be c r e a t e d i n the I n d u s t r i a l Development Bank of
I n d i a w h i c h w o u l d a c t as an i n v e s t m e n t bank f o r key p u b l i c e n t e r p r i s e s .
T h i s p u b l i c - s e c t o r bank would get money from t h r e e s o u r c e s :
a p a r t of
the money t h a t i s now borrowed by the Government under the S t a t u t o r y
L i q u i d i t y R a t i o p r o v i s i o n w i l l be passed on to i t w i t h o u t g o i n g t h r o u g h
the b u d g e t ; i t w i l l have the s o l e r i g h t to i s s u e c a p i t a l g a i n s b o n d s ;
a l l c e n t r a l p u b l i c e n t e r p r i s e s w i t h s u r p l u s f u n d s would be r e q u i r e d to
i n v e s t them i n medium-term bonds t o be i s s u e d by the p u b l i c s e c t o r bank,
w i t h b u y - b a c k f a c i l i t y . The Bank will a p p r a i s e the p e r f o r m a n c e of the
a p p l i c a n t p u b l i c e n t e r p r i s e s b e f o r e making l o a n s o r i n v e s t i n g i n e q u i t y ,
as i n the c a s e of p r i v a t e e n t e r p r i s e s . P r o f i t - m a k i n g p u b l i c e n t e r p r i s e s
may s e l l p a r t of t h e i r e x i s t i n g s h a r e c a p i t a l i n the m a r k e t , s a y , up t o
30 p e r c e n t of t h e i r s h a r e c a p i t a l , o r they can i n c r e a s e t h e i r s h a r e

Investment in public
enterprises
(a) Loans
(b) Equity
Other investments
Plan assistance to states/UTS

(156.24)
(33.82)
(44.89)
(16.18)
(61.35)

49.89
10.80
14.33
5.17
19.59

1988/89 figures given in parentheses are revised estimates.

the accounts.

(ii)
(iii)

(i)

Plan outlay

(iv)

150.33

0.48
0.06
2.83

(1.50)
(.19)
(12.00)

3.

0.64
0.05
0.05

Defense outlay
Loans to public enterprises
Loans to foreign governments
(a) Vietnam
(b) S r i Lanka
(c) Technical credits i n terms
of trade and agreements
(d) Others
Others

2.77

11.90

(37.27)
(8.67)
(1.99)
(.16)
(.14)

(i)
(ii)
(iii)

19.14

(59.94)

Nonplan

2.

capital outlay

33.58

105.15

To cover revenue d e f i c i t

1.

Percent
of Total

313.15

1988/89
Accounts

45.45
9.71
13.98
3.99
17.77

158.93
19.47
48.97
15.83
74.76

3.50
0.27
14.97

.12
.15

48.02
9.69
4.04

43.43
5.32
13.38
4.33
20.40

0.96
0.07
4.09

13.12
2.65
1.10
0.03
0.04

20.96

35.61

Percent
of Total

The necessary breakdown i s not available in

62.99

161.09
34.41
49.55
14.14

3.50
0.19
11.43

0.99
0.05
3.22

11.90
3.19
1.12
0.06
0.02

42.28
11.31
3.95
.20
.06

19.46

68.97

76.72

130.32

35.09

124.36

Budget
Estimate

1990/91

365.97

Percent
of Total

354.42

Revised
Estimate

U t i l i z a t i o n of Capital Receipts

(In b i l l i o n s of rupees)

India:

Total capital receipts

Table 14.

- 38

c a p i t a l a n d i s s u e new s h a r e s . In
g e t t h e p r o c e e d s o f t h e s a l e , and
from the market.

the former case, the Government

will
to t h a t e x t e n t needs to borrow l e s s

S o m e p u b l i c e n t e r p r i s e s may n o t be a b l e t o r a i s e m o n e y f r o m o u t s i d e
the b u d g e t , p a r t i c u l a r l y t h o s e t h a t a r e of a p r o m o t i o n a l
character
and
a r e not meant to make p r o f i t s .
However, i n d u s t r i a l e n t e r p r i s e s i n gener a l , e n t e r p r i s e s i n the e n e r g y , t r a n s p o r t a t i o n , and t e l e c o m m u n i c a t i o n
s e c t o r s , a n d f i n a n c i a l i n t e r m e d i a r i e s c a n a l s o be a s k e d t o b o r r o w f r o m
t h e p u b l i c - s e c t o r b a n k , i n s t e a d of f r o m t h e G o v e r n m e n t , but t h e y
should
be g r a n t e d f u n d s o n l y on t h e b a s i s o f p e r f o r m a n c e .
Some o f t h e e n t e r p r i s e s may be a l l o w e d by t h e c o n t r o l l e r o f c a p i t a l i s s u e s t o i s s u e
d e b e n t u r e s on t h e b a s i s of t h e same c r i t e r i a as p r i v a t e e n t e r p r i s e s ;
t h e y w o u l d p e r h a p s be a b l e t o b o r r o w a t l o w e r r a t e s o f i n t e r e s t .
It i s f o u n d t h a t i n t h e y e a r 1 9 8 9 / 9 0 , b u d g e t a r y s u p p o r t t o p u b l i c
e n t e r p r i s e s a m o u n t e d t o n e a r l y 25 p e r c e n t o f g o v e r n m e n t b o r r o w i n g .
Even
i f o n l y h a l f o f i t w e r e t o be t a k e n o u t o f t h e b u d g e t , b o r r o w i n g b y t h e
G o v e r n m e n t c o u l d h a v e b e e n r e d u c e d b y 12.5
percent.
(2)
L o s s - m a k i n g p u b l i c e n t e r p r i s e s a r e b e i n g s u p p o r t e d by s u b s i d i e s a s well a s by " n o n p l a n " l o a n s o u t o f t h e b u d g e t .
In most c a s e s ,
l o s s - m a k i n g p u b l i c e n t e r p r i s e s h a v e b e e n a l l owed t o c o n t i n u e t o
operate
at a l o s s f o r f e a r of d i s p l a c i n g l a b o r .
Given the i n s t i t u t i o n a l framew o r k , i t i s n o t p o s s i b l e t o c l o s e down e n t e r p r i s e s i n some " c o r e " s e c t o r s s u c h as c o a l and p o w e r . H o w e v e r , a l l p u b l i c e n t e r p r i s e s i n t h e
" n o n c o r e " s e c t o r s ( i . e . , e x c l u d i n g c o a l , p o w e r , p e t r o l e u m , r a i l w a y s , and
s o m e n o n f e r r o u s m e t a l s ) s h o u l d be m a d e f u l l y a u t o n o m o u s a n d be l e f t t o
o p e r a t e a c c o r d i n g to m a r k e t f o r c e s . T h e y s h o u l d , as a r u l e , o b t a i n
f u n d s f o r f u r t h e r i n v e s t m e n t and o p e r a t i o n s f r o m n o n b u d g e t a r y
sources
( f r o m t h e p u b l i c - s e c t o r w i n g or the I n d u s t r i a l D e v e l o p m e n t B a n k of I n d i a
and the m a r k e t ) .
This implies that those public enterprises which are
r u n n i n g e f f i c i e n t l y and m a k i n g p r o f i t s w i l l c o n t i n u e and e x p a n d ; t h o s e
w h i c h c a n be r e h a b i l i t a t e d w i t h r e a s o n a b l e i n f u s i o n o f f u n d s , w i l l
be
r e h a b i l i t a t e d by f i n a n c i a l i n s t i t u t i o n s ; a n d t h o s e w h i c h w o u l d n o t
b e c o m e v i a b l e , w o u l d be w o u n d up a n d s o l d , o r m e r g e d w i t h o t h e r
enterprises.
L a b o r , w h i c h w o u l d be t h r o w n o u t o f e m p l o y m e n t t h r o u g h c l o s u r e
o r m e r g e r , m u s t be g i v e n a l t e r n a t i v e e m p l o y m e n t o r a d e q u a t e c o m p e n s a tion.
T h u s , b e f o r e a p r o g r a m of c l o s u r e o f l o s s - m a k i n g p u b l i c ( a n d
p r i v a t e ) e n t e r p r i s e s i s i n i t i a t e d , d e t a i l e d schemes of c o m p e n s a t i o n ,
r e t r a i n i n g , r e d e p l o y m e n t , and r e h a b i l i t a t i o n o f s u r p l u s o r d i s p l a c e d
l a b o r s h o u l d be w o r k e d o u t .
(3)
A n o t h e r way of r e d u c i n g t h e l o a d o n t h e p u b l i c s e c t o r i s t o
s h a r e w i t h t h e p r i v a t e s e c t o r t h e t a s k o f e x p a n d i n g c a p a c i t y i n some
i n d u s t r i e s which have h i t h e r t o been reserved l a r g e l y f o r the p u b l i c
sector.
T h i s i s a l r e a d y being done in respect of power g e n e r a t i o n
and
steel production.
O t h e r c a p i t a l - i n t e n s i v e i n d u s t r i e s , s u c h as o i l
e x p l o r a t i o n a n d r e f i n i n g , may be a d d e d to t h e l i s t .
Government should
i n c r e a s i n g l y m o v e o u t of t h e b u s i n e s s of p u b l i c t r a n s p o r t by r o a d .
Mo si.
of the p u b l i c s e c t o r road t r a n s p o r t c o r p o r a t i o n s are m a k i n g s i z a b l e

- 39 -

l o s s e s , i n c l u d i n g t h e D e l h i T r a n s p o r t C o r p o r a t i o n . The p r i v a t e s e c t o r
can a l s o be u t i l i z e d t o a g r e a t e r extent t h a n at p r e s e n t f o r the manuf a c t u r e o f m a t e r i a l s and components needed by p u b l i c s e c t o r s e r v i c e
i n d u s t r i e s , such as t e l e c o m m u n i c a t i o n s and r a i l w a y s .
( 4 ) The c l o s u r e of l o s s - m a k i n g p u b l i c e n t e r p r i s e s , t h e s h i f t i n g of
a good p a r t of t h e f i n a n c i n g of p u b l i c e n t e r p r i s e s out o f the b u d g e t ,
and t h e s a l e o f p a r t o f the e q u i t y owned by the Government would h e l p
c u t down government b o r r o w i n g and thus b r i n g down the g r o w t h o f
interest.
I f most o f the r e m a i n i n g e n t e r p r i s e s a r e o p e r a t i n g a u t o n o mously and a c c o r d i n g t o market p r i n c i p l e s , the a v e r a g e r a t e of r e t u r n t o
Government would i n c r e a s e and net i n t e r e s t burden would grow more
slowly.
( 5 ) An a d v a n t a g e w i t h s e i g n o r a g e i s t h a t i t c a r r i e s w i t h i t no
interest l i a b i l i t y .
In I n d i a , s i n c e s e i g n o r a g e t a k e s the form o f b o r r o w i n g f r o m t h e RBI, t h e r e i s an a t t e n d a n t i n t e r e s t l i a b i l i t y .
One view
i s t h a t t h i s l i a b i l i t y i s f i c t i t i o u s . A c c o r d i n g t o t h i s v i e w , the
a c c o u n t s o f the RBI s h o u l d be i n t e g r a t e d w i t h t h o s e of GOI w h i l e
m e a s u r i n g t h e magnitudes of debt and i n t e r e s t .
I f t h i s i s done, the
debt t o RBI would get c a n c e l e d and the i n t e r e s t burden would be l e s s
than w i t h o u t i n t e g r a t i o n . However, the l e v e l of government e x p e n d i t u r e
would be h i g h e r , because then the e x p e n d i t u r e by RBI out o f i t s p r o f i t s ,
o n l y p a r t of w h i c h i s p a i d t o the Government, w i l l be shown as g o v e r n ment e x p e n d i t u r e . C o r r e s p o n d i n g l y , the amount o f s e i g n o r a g e w i l l be
shown t o be h i g h e r t h a n RBI c r e d i t t o Government. Such a p r e s e n t a t i o n
would be a more f a i t h f u l p i c t u r e o f what i s a c t u a l l y h a p p e n i n g .
What we a r e i n t e r e s t e d i n h e r e i s t o p r e v e n t RBI from u n d e r t a k i n g
e x p e n d i t u r e out of " f i c t i t i o u s " p r o f i t s a r i s i n g from i t s ' ' l e n d i n g " t o
the Government. P a y i n g a l l of the p r o f i t s a r i s i n g from s e i g n o r a g e back
to Government would o n l y add t o c r e d i t c r e a t i o n and a r t i f i c i a l l y i n f l a t e
government r e v e n u e s .
E q u a l l y , the e x p e n d i t u r e by RBI out of i t s p r o f i t s
from l e n d i n g t o t h e Government r e p r e s e n t s a d d i t i o n a l c r e d i t c r e a t i o n
w h i c h i s under no r e g u l a t i o n . The b e s t c o u r s e o f a c t i o n would be to
s t i p u l a t e t h a t a h i g h p r o p o r t i o n o f the i n t e r e s t ( s a y , 80 p e r c e n t ) p a i d
by t h e Government e v e r y y e a r s h o u l d be a p p l i e d t o the c a n c e l a t i o n of the
p u b l i c debt h e l d by RBI. A d d i t i o n a l l y , i t s h o u l d be s t i p u l a t e d t h a t
Government s h a l l not be g i v e n c r e d i t by RBI a g a i n s t T r e a s u r y b i l l s
beyond the l i m i t s e t by due s e i g n o r a g e ( i . e . , such c r e d i t s h o u l d be
l i m i t e d t o the e x p e c t e d a d d i t i o n a l demand f o r cash by t h e nongovernment
s e c t o r i n any g i v e n year on r e a s o n a b l e a s s u m p t i o n s r e g a r d i n g the growth
r a t e and the p e r m i s s i b l e low degree of i n f l a t i o n ) .
10.

A s u g g e s t e d a c c o u n t i n g framework f o r
a p p r a i s a l of l o n g - t e r m f i s c a l s t a n c e

As the l e v e l of p r i m a r y d e f i c i t i n r e l a t i o n t o GDP i s reduced and

the growth of t h e debt r a t i o i s brought under c o n t r o l , i t would be
p o s s i b l e t o move t o the s e c o n d - s t a g e of adjustment: w h i c h would be geared
to the a t t a i n m e n t of a d e s i r a b l e l o n g - t e r m f i s c a l s t a n c e . Under t h i s

- 40 -

s t a n c e , d e f i c i t f i n a n c i n g ( d e f i c i t meaning here t o t a l net government

borrowing) should be used only f o r purposes which have been enumerated
e a r l i e r on (pp. 21-24), and Government's net l e n d i n g should not r e s u l t
in any a p p r e c i a b l e i n t e r e s t burden on the budget. The f o l l o w i n g
accounting framework i s suggested as a basis f o r a p p r a i s i n g Government's
f i s c a l stance from the above-mentioned angle:

Main Budget
Revenue Receipts

Expenditures

1.
2.

Tax revenues
Nontax revenues other than
investment income

4.

3.

Investment income

5.
6.
7.
8.

9.

Surplus (-) or d e f i c i t
in main budget
Total

(+)
Total

Investment

Budget
Expenditures

Receipts

10.
11.

Recoveries of loans
C a p i t a l grants from abroad

12.
13.
14.

13.

Government consumption
(expenditure on goods
and s e r v i c e s not l e a d i n g
to p h y s i c a l c a p i t a l
formation)
Transfer payments
Interest
D e p r e c i a t i o n on
Government-owned a s s e t s
Government c a p i t a l
formation

Investment i n e q u i t y of
public enterprises
Loans to p u b l i c
enterprises
Loans to p r i v a t e p a r t i e s

D e f i c i t (+) on investment
account
Total

16. T o t a l d e f i c i t = 9 + 1 5
17.
T o t a l c a s h d e f i c i t = 9 + 15 - 7
17 = e x t e r n a l b o r r o w i n g + b o r r o w i n g f r o m d o m e s t i c
+ b o r r o w i n g f r o m RBI

Total

private

sector

- 41

In tthe i d e a l s i t u a t i o n , t h e total
d e f i c i t should not exceed
8. ( G o v e r n m e n t c a p i t a l f o r m a t i o n ) p l u s 1 5 . ( D e f i c i t o n i n v e s t m e n t
a c c o u n t ) p l u s a s m a l l p r o p o r t i o n o f r e v e n u e e x p e n d i t u r e on s o c i a l
overheads contained i n 4 . (Government consumption).
Within this
c e i l i n g , b o r r o w i n g f r o m RBI s h o u l d be l i m i t e d t o t h e d u e a m o u n t of
s e i g n o r a g e . G i v e n t h e amount o f e x t e r n a l b o r r o w i n g , w h i c h would be
d e t e r m i n e d b y a v a i l a b i l i t y a s we 11 a s b y l o n g - t e r m b a l a n c e o f p a y m e n t s
c o n s i d e r a t i o n s , the t o t a l of domestic borrowing from t h e p r i v a t e s e c t o r
w o u l d be d e t e r m i n e d a s a r e s i d u a l .
I f i t i s f e l t t o be t o o l a r g e t o
p e r m i t t h e p r i v a t e s e c t o r i t s due s h a r e or s a v i n g i n t h e l i g h t o f t h e
r e s p o n s i b i l i t i e s t h r o w n on i t , t h e n t h e p r o p o s e d s c a l e o f p u b l i c
i n v e s t m e n t may b e r e v i e w e d .

APPENDIX
- 42 -

Decomposition of Growth in the Debt of Central Government

In this appendix, changes i n the debt r a t i o between 1984/85 and

1989/90 are analyzed by decomposing the total change into changes
attributable to three different factors, namely, growth of real income,
increase i n the price l e v e l , and the growth of debt ( i n nominal terms).
Table 15 presents the relevant figures.
Column 2 i n the table shows the
ratios of the debt at the end of 1984/85 to the GDP of different years
at 1984/85 prices; that i s , i t shows how the debt r a t i o i n 1984/85
(46.1 percent) would have come down as a result of the real growth i n
GDP. If the debt had not grown, the debt r a t i o would have come down to
34.3 percent i n 1989/90 because of the real growth i n GDP. Column 3
shows the r a t i o of the debt at the end of 1984/85 to the GDPs of d i f f e r ent years as a result of price changes only, without any change i n GDP;
that i s , figures i n the column show the decrease i n debt ratio brought
about by i n f l a t i o n alone. I n f l a t i o n would have reduced the debt ratio
from 46.1 percent to 32.7 percent. Column 4 combines the two effects
and indicates the reduction i n the debt r a t i o of 1984/85 as a result of
the interaction of the growth of real GDP and change i n the price l e v e l ,
the l e v e l of debt remaining the same. We note that i f the debt had not
grown, the debt r a t i o would have been reduced from 46.1 percent i n
1984/85 to 24.3 percent i n 1989/90, as a result of the interaction of
the income effect and the price effect.
Column 6 indicates the impact of the income effect alone: the
growth of income has the effect of reducing the debt ratio to the extent
of 10.23 percentage points by the end of 1989/90. S i m i l a r l y , Column 7
shows the impact of the price effect alone: the change i n prices has
the effect of reducing the debt ratio to the extent of 11.6 percentage
points by the end of 1989/90.
The growth of debt by i t s e l f would have raised the debt ratio by
35.92 percentage points had real income and prices not changed
(Column 8); in point of fact, the debt ratio increased by 14.09 percentage points because the growth i n debt was counterbalanced by the growth
in real income and prices.

1984/85
1985/86
1986/87
1987/88
1988/89
1989/90

(1)

(Base year = 1984/85)

46.11
43.41
41.43
39.63
36.14
34.26

46.11
43.03
40.36
37.22
34.69
32.68

46.11
40.51
36.26
31.99
27.19
24.28

46.11
49.48
53.77
55.01
56.82
60.20

-2.62
-4.42
-5.96
-8.82
-10.23

-2.99
-5.43
-8.17
-10.10
-11.60

8.97
17.51
23.02
29.62
35.92

3.37
7.66
8.90
10.70
14.09

--

Decomposition of Growth i n Debt

Total
Income Price
Debt
Effect
Effect
Effect Effect
%
%
%
(6)
(7)
(8)
(9)

Decomposition of Growth i n the Debt of C e n t r a l Government

Proportion of Debt to GDP (Percent)

1984/85 Debt
1984/85 Debt
Actual
1984/85 Debt to
to GDP at
to GDP at
Debt to
1984/85 GDP at
1984/85 Prices Current Prices Current Prices
GDP
(4)
(2)
(3)
(5)

Table 15. India:

(Primary Deficit/GDP =

3%

Avg. Int. = 7.75%)

DEBT GDP RATIO

Chart I

- 45 -

References
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(Economic Policy No. 1, 1985).
, and U r j i t R. P a t e l , A Macroeconomic Perspective on the Public
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Indicators of F i s c a l Policy: A Reassessment, Working Paper No.
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World Bank).
, (1989b), Fiscal P o l i c y , Debt Growth, and I n f l a t i o n in a Long
Term Perspective, mimeo., (Washington, D.C.:
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(1990), Paper presented to the ISPE Conference in New Delhi.
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