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Q. What do you understand by public debt? Why is high public debt considered a matter of concern? Discuss in the context of India.

Answer 

• In the Indian context, public debt includes the total liabilities of the Union government that have to be paid from the Consolidated Fund of India. Sometimes, the term is also used to refer to the overall liabilities of the central and state governments.
• The sources of public debt are dated government securities (G-Secs), treasury bills, external assistance, and short-term borrowings.
• The Union government’s debt soared from 51.8% in 2011- 2012 to 58.8% of the GDP in 2020-21, a 14-year high.

This increasing burden of public debt is a matter of concern as discussed below:

• Mounting interest payments: Borrowings built on the government’s outstanding debt would add another indispensable expense in the form of interest payments.
• Sovereign debt crisis: As interest rates rise, it becomes more expensive for a country to refinance its existing debt. In time, income has to go toward debt repayment, and less toward government services. Much like what occurred in Europe, a scenario like this could lead to a sovereign debt crisis.
• Inflationary pressure: Increase in government spending or a cut in taxes would increase aggregate demand leading to demand-pull inflation.
• Crowding out effect: Excessive public debt leads to a higher risk premium in interest rates, which results in a reduction of private investment as well as a contraction in GDP in the long run.
• The burden on future generations: By borrowing, the government transfers the burden of reduced consumption to future generations. This is because it borrows by issuing bonds to the people living at present but may decide to pay off the bonds later, say after twenty years, by raising taxes.
• Debt sustainability: Rise in primary deficit and deterioration in interest rate growth differential would fuel skepticism on the debt sustainability of India.
• Fiscal space: The wide fiscal deficit leaves little room to absorb further adverse shocks without compromising credit ratings.

Credit ratings

• When debt approaches a critical level, investors usually start demanding a higher interest rate. If the country keeps spending, then its bonds may receive a lower credit rating which indicates how likely the country will default on its debt.
• In emerging high-growth economies such as India, the government is required to propel growth through sufficient fund allocation in infrastructure and other essential resources.

Therefore, governments need to carefully find that sweet spot of public debt that is large enough to drive economic growth but small enough to keep interest rates low.