Should India Have Fiscal Spending Rules and a Debt Ceiling?

In the U.S., the debt ceiling is once again making headline news. Government shutdowns and the thought of U.S. defaulting on its debt could have devastating consequences both for the U.S. and for the global economy. Meanwhile, India is a completely different story.

The Covid-19 pandemic after effects will test how much debt developing countries can bear. The attitude within OECD of course has been “don’t worry about government deficits so much and continue to spend”. Last year the U.S. Federal Reserve and other counterparts moved aggressively with sweeping emergency rate cuts and offers of cheap dollars, to help combat the pandemic. Emergency policy easing by central banks in UK, New Zealand, Japan and South Korea, Australia, too had provided further stabilization. But can non-OECD or developing countries pump ample liquidity into the markets too, and support fiscal stimulus?

Which brings me to India. India has around $540 billion FX reserves.

India’s overall fiscal deficit- the gap between expenditure and revenue for 2020-21 was 9.3 per cent GDP, a very high number which complicates the task of monetary policy. A fully discretionary fiscal policy framework will likely worsen this.  India has had the Fiscal Responsibility and Budget Management (FRBM) Act, 2003 which sets a target for the government to establish financial discipline in the economy, improve the management of public funds and reduce fiscal deficit.  The FRBM has in the past incentivized the government to reduce the fiscal deficit by a percent of GDP each year, and gradually move to a position where current spending matched current revenues. The government would need to explain to Parliament any breaches of the Act. The discipline of this law was in part responsible for a significant improvement in government finances in the first decade but after the 2008 GFC, the general government’s deficit rose sharply from 4% of GDP to 8.3%. A pause in the FRBM and an expansionary budget thereafter contributed to the large increase in the deficit. Once the discipline of the FRBM was obviated, the urgency of imposing fiscal limits was no longer clear. After the stimulus, the economy did recover from April 2009 onwards, but the fiscal stimulus was not rolled back, and deficits remained high. Ever since, the government has continued to borrow. The lack of a rules-based system due to escape clauses in the FRBM has come alongside a sharp deterioration in government finances. A fiscal rule spending rule would increase the accountability and transparency of fiscal policy. A rule could be a variant of an “Expenditure Rule, or Revenue Rule, or Budget Balance Rule or a limit on Debt Rule”.

Of course, implementing any such fiscal rule would be much more difficult, as it involves the government and opposition coming together on spending issues.

But shouldn’t India have fiscal rules that outline its fiscal policy?

Author: Sameer_Jain

Partner. Sameer Jain is founder of FinTech, the world’s first portal that seamlessly integrates traditional, illiquid and alternative investments within portfolios. Prior to this he was Chief Economist & Managing Director at AR Capital. Before that he headed Investment Content & Strategy at UBS Alternative Investments. At UBS, he served as a non-voting member of the Wealth Management Research investment committee, and as a capital allocator was responsible for all illiquid investing including fund manager selection and due diligence across the platform. Prior to UBS he headed product development & investment research at Citigroup Alternative Investments that managed over $75 billion of alternative investments across hedge funds, managed futures, private equity, credit structures, infrastructure and real estate. Here he led a team that developed proprietary models for portfolio strategy and asset allocation with alternative investments, provided investment support and research to pension plans, sovereign wealth funds, endowments as well as internal clients including Citi Private Bank. Before this he was with Cambridge Alternative Investments and SunGard (System Access) where he travelled to over 80 countries for work across Europe, Asia, Middle-East and Africa. He has written over 30 academic and practitioner articles on alternative investments with thousands of downloads at SSRN, presented at over a hundred industry conferences and has coauthored a book, Active Equity Management. Mr. Jain has multiple degrees in engineering, management, public administration and policy and is a graduate of Massachusetts Institute of Technology and Harvard University. He is a recipient of the Alfred Sloan Fellowship and subsequently was a Fellow of Public Policy and Management at the Harvard Kennedy School of Government for a year. He holds Series 7 and 66 securities licenses.

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