India's Ambitious Debt-to-GDP Reduction Strategy
Introduction
The Union government has set an ambitious target to reduce India's debt-to-GDP ratio, aiming for a 1 percentage point reduction annually from 2024-25 until it reaches a sustainable level of 50%. This long-term objective reflects the government's commitment to fiscal discipline and economic stability.
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Current Debt Scenario
As per budget estimates, government debt is expected to reach ₹185.27 trillion, or 56.8% of GDP, in the financial year 2024-25 (FY25). This marks a significant increase from ₹93.26 trillion, or 49.3% of GDP, in 2018-19. The debt-to-GDP ratio has fluctuated in recent years, standing at 52.3% in 2019-20, peaking at 61.4% in 2020-21 due to the pandemic, and then slightly declining to 58.2% in 2023-24.
Impact of the Pandemic
The COVID-19 pandemic significantly impacted India's debt levels. The government resorted to extensive borrowing to fund relief measures and stimulus packages, driving the debt-to-GDP ratio to 61.4% in FY21. This response was necessary to mitigate the economic fallout of the pandemic but resulted in increased debt levels.
Future Reduction Plans
The government plans to reduce the debt-to-GDP ratio by 1 percentage point annually until it reaches 50%. After achieving this milestone, the reduction will slow to 0.5 percentage points per year to avoid constraining economic growth. This phased approach balances fiscal consolidation with the need to support economic expansion.
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Rating Agencies' Perspective
Sustained fiscal consolidation could improve India's prospects for a credit rating upgrade. Fitch recently indicated that a lower debt-to-GDP ratio could boost India's rating. Higher sovereign credit ratings reflect greater trust in a government's ability to repay its debt, leading to lower borrowing costs. Currently, India holds a BBB- rating from S&P and Fitch, and a Baa3 rating from Moody's, the lowest investment grade.
State-Level Fiscal Responsibility
States are expected to maintain a fiscal deficit target of 3% of GDP, stabilizing their debt-GDP ratio at around 30%. Combined, the Centre and states' debt-GDP ratio would settle at approximately 70%. This implies a significant portion of investible surplus will be pre-empted by the government sector, limiting resources for the private and non-government public sectors.
Conclusion
India's plan to reduce its debt-to-GDP ratio is a crucial step towards ensuring fiscal sustainability and economic stability. The phased approach aims to strike a balance between reducing debt levels and supporting economic growth, positioning India for a more robust fiscal future. The success of this strategy will depend on disciplined fiscal management and the ability to navigate potential economic challenges.
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