The finance minister has reason to lose sleep over the ballooning subsidy bill. The finance ministry’s own estimates peg the bill to overshoot the budgeted estimate of Rs1.4 trillion by a breathtaking one trillion! If the new estimate turns out to be correct, the revised subsidy expenditure, at Rs2.3 trillion, will be a 100% jump over the previous year’s expenses. That in a year when the fiscal stimulus administered in the wake of the crisis was meant to be withdrawn as growth rebounded to trend.

Worse, all this is increasingly being financed by borrowings instead of revenues, notwithstanding the strong growth of recent years. Market borrowings, for instance, were budgeted to finance 66% of the government’s overall expenditure at the start of the year in 2011-12, a three-fold increase from 2007-08 when only one-fifth of total government spending was so financed. So another 25% of current expenditures will be assigned to repaying interest on earlier loans in 2011-12; such high interest outlays are now limiting fiscal space, thus making it difficult for the government to make the investments needed to address the infrastructure deficit (a contributory factor to inflation).

Alarm bells are naturally ringing over India’s failing fiscal health. These trends have sent out apprehensive signals that have a powerful impact upon the country’s macroeconomic stability. Other than crowding out resources for private sector use, pushing up interest rates and compromising the central bank’s monetary actions, the rising fiscal excesses have encouraged consumption, contributed towards inflation, deterred private investments and shaken investor confidence. The failure to consolidate the public balance sheet, despite an impressive recovery to 8%-plus growth for two successive years, has raised questions about the deteriorating culture of fiscal credibility, a crucial pillar of good economic institutions. Expectations of credible fiscal consolidation have touched an all-time low. Shrinking space on both expenditure and revenue sides offers little maneuverability to the government as economic growth, which has always driven India’s fiscal consolidation, has fallen below trend while the Fiscal Responsibility and Budget Management Act benchmarks, which played a crucial role in imparting credibility to India’s fiscal image, remains to be revived.

Indeed, the comprehensive research of Reinhart and Rogoff (2010) finds that high public debt is associated with lower growth rates. Once debt exceeds 90% of GDP, emerging countries’ growth is observed to decline substantially. It’s important to note this relationship for one cannot bank infinitely upon growth for fiscal deliverance.

Renu Kohli is a New Delhi-based macroeconomist. She is a former staff member of the International Monetary Fund and Reserve Bank of India.