India can’t afford to go on a debt binge

India’s economy has suffered more than most from the pandemic and so have its people. The country has lost more than a year’s worth of growth and perhaps a decade’s progress in its efforts to reduce poverty. The economic
contraction — the first in India since the 1970s — has put pressure on its government like so many others to respond.
Until this week, that response had been relatively restrained. Prime Minister Narendra Modi’s government seemed to recognise that there was only so much it could do to address
the economic contraction,
especially while the pandemic is still raging. By its actions, the government implied that any welfare-promoting and growth-enhancing measures had to stand on a solid macro-economic foundation.
The federal budget for the next financial year, which starts in April, has poked a hole in this optimistic narrative. Not only has the fiscal deficit for the current
year exploded to 9.5% of GDP — two percentage points higher than the consensus estimate, but still defensible for a pandemic year — next year’s deficit is now forecast to reach almost 7%. The government has effectively abandoned its long-term commitment to bring the deficit down to close to 3% of GDP, pitching instead for a gentle descent to 4.5% — six years from now.
Once the pandemic retreats, India might end up with a debt-to-GDP ratio north of 90%, compared to the low seventies at present. It would be saddled with a permanently elevated fiscal deficit and a financial system bogged down by unknown levels of bad debt.
Consumer price inflation has topped the Reserve Bank of India’s target zone of 2%-6% since the Covid-19 lockdown began last year. These are, I am afraid, numbers more associated with Latin American stagnation than your typical Asian tiger.
The government is obviously hoping that increased spending will help India grow out of this predicament. Unfortunately, actual growth before the pandemic was already just 4% a
year. Fitch Ratings thinks India’s potential growth is
at best 5.1%. That won’t
be enough to deal with the macro-economic predicament India’s in.
The only way India can pull itself out of this jam is if private investment pours into the country, financing projects that push up the country’s potential growth rate. Yet the government, already monopolising domestic financial savings, seems to want to go to war with the global markets as well.
In his pre-budget survey of the economy, the government’s seniormost economist spent an entire chapter attacking the ratings agencies — a pre-emptive salvo against a possible sovereign downgrade. Print money without fear, he urged, saying that doing so would “not necessarily lead to inflation and a debasement of the currency” if the extra money is invested in the right projects.

—Bloomberg