Rising Government Debt and Fiscal Deficit-VRK100-20Sep2011

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Rising Government Debt and Fiscal Deficit

There are heightened concerns about the financial position of the Government of India due to rising internal debt and fiscal deficit. Doubts have been expressed about the ability of the government to control the expenditure and keep the central government’s gross fiscal deficit within the budgeted target of 4.6 per cent ( as a % of GDP).

Big rise in Government Borrowings

In the last four years between 2008-09 and 2011-12, the central government’s market borrowings – which are raised from the banks, insurance companies and others – have been rising at an alarming rate. The yearly average net market borrowings of the central government for the last four years are at Rs 3,29,000 crore, which is 3.6 times the yearly average of Rs 91,000 crore between 2004-05 and 2007-08.

This clearly shows the central government’s increasing dependence on market borrowings to meet the gaps in its finances.

Fiscal Deficit is Becoming Uncontrollable

As the government is unable to control its expenditure on petroleum and fertilizer subsidies, the fiscal deficit is getting out of control. The budgeted gross fiscal deficit of the central government is Rs 4,12,817 crore for 2011-12 and the figure for states stands at Rs 1,98,539 crore for 2010-11. The budgeted fiscal deficit is 4.6 per cent of GDP for 2011-12 and the revenue deficit is 3.42 per cent of GDP for the central government.

As per FRBM revenue deficit is supposed to be at or below one per cent – this goal was achieved only once in 2007-08. If GDP growth rate were to decline in the next few years, the fiscal and revenue deficit ratios will deteriorate, because fiscal deficit will be growing at much faster than the GDP growth rate. The government is unable to sell its stake in public sector companies as part of its disinvestment programme.

One Positive Factor

One noteworthy feature of the central government’s finances is the internal debt ratio as a percentage of GDP, which has declined from 56.73 per cent in 2006-07 to 48.04 per cent in 2010-11. Under difficult conditions for GDP growth, it may not be possible to show further improvement in this ratio.

Interest Payments Increasing Sharply

The interest payments of the central government amount to Rs 2,67,986 crore for 2011-12, which is putting pressure on revenue deficit. Interest payments are 2.98 per cent of GDP for 2011-12 as per budget estimates.

Government’s Growing Internal Debt: ‘The Dirty Picture’

The total outstanding debt is at Rs 23.48 lakh crore as on 19 September 2011 as per the RBI data on outstanding Government of India securities. It is shocking to note that fifty-six per cent of this outstanding debt is raised in the last four years between 2008-09 and 2011-12! Interestingly, nearly half of this debt has to be paid in the next seven years beginning from 2012-13. This means the government has to resort to more market borrowings to fill the future deficits and the outstanding debt will go on increasing. These figures do not include the numbers of the 28 state governments. If included, it will indicate a worse scenario.  

Outlook for Bond Market Is Bleak

The deteriorating fiscal picture has not been factored in fully in the prices of government securities in the last three to four years. The central government is able to borrow at very lesser rates in the past four years. 

For example, the weighted average cost of the central government’s bonds (excluding treasury bills) is ranged from 7.23 to 8.12 per cent between 2006-07 and 2010-11. So is the case with the state governments. Going forward, will the government be able to raise money at such low rates?

FIIs are permitted to invest in government securities up to an amount of $ 10 billion comprising of $ 5 billion for bonds with the residual maturity of five years and $ 5 billion for bonds without any residual maturity restrictions.

Lately, Indian rupee has been declining against the US dollar due to a variety of reasons. Is it possible that the same negative feeling too will develop in the government bond market? I have an eerie feeling that government bond prices are in for higher volatility if there is heavy selling of government securities by FIIs.

However, the percentage of holding of FIIs in the government bonds is very low and RBI may not encourage any volatility in the bond markets.

FII – Foreign Institutional Investor, FRBM – Fiscal Responsibility and Budget Management Act, and  GDP – Gross Domestic Product or national income.

Data source: RBI

Note on author: Author is an investment analyst and writer. The views are personal and this is written only for information purpose. Readers are advised to consult their certified financial adviser before taking any investment decisions.

Author’s articles on financial articles can be accessed at:

www.ramakrishnavadlamudi.blogspot.com