Opinion
The US debt ceiling mess shows why a Fiscal Council is a bad idea
Summary
The failure of even the non-partisan Congressional Committee of Budget in preventing the debt cliff-edge has lessons for IndiaTreasury bills issued by the federal government in the United States, the ultimate in guaranteed assets, are held by central banks the world over, including the Reserve Bank of India. But the US Public Debt Act restricts Treasuries to an aggregate absolute ceiling, which can be raised only through legislative amendment of the act. This periodically triggers an excruciating bargaining process if the legislative majority is held by a political party opposed to that in executive power. With the possibility of a US default on Treasuries if the ceiling was not lifted by June 2023, a purely internal political face-off in the US became a serious threat to stability in global financial markets.
The US alone still clings to the arcane practice of defining debt limits in absolute terms. Since comparisons of public debt levels across countries or over time within a country have to be related to debt servicing capacity, absolute public debt is always normalised by the gross domestic product (GDP), at currency values of the relevant country/year.
An absolute debt limit, when reached as in the US, implies that no additional borrowing is permissible even for servicing pre-existing debt. That was the conundrum facing the US until a political agreement was finally reached with a few days to spare. Whereas debt measured as a percent of GDP allows for borrowing to pay interest, even while maintaining debt at the inherited percent of GDP, provided the GDP denominator has grown commensurately in nominal terms.
The Indian Constitution (wisely) subjects public borrowing by constituent states to formal approval by the Central government, but limits on borrowing by the Centre were left to Parliament to enact. The first such was the Fiscal Responsibility and Budget Management (FRBM) Act of 2003, operationalised in July 2004. The rules accompanying the act targeted the fiscal deficit (FD)—additional borrowing net of redemptions—but there was no limit on aggregate debt. It is only the 2018 amendment to the act which adds on debt limits—at 40% of GDP (Centre) and 60% (Centre plus states), by the end of 2024-25. Covid scotched those limits which were too low, and unnecessary in any case.
Any desired final public debt target can be mapped onto the path limits on the FD for simulated values of the relevant parameters, critical among which are the interest rate on pre-existing debt and the nominal rate of growth of GDP.
The current US public debt limit of $31.4 trillion, which after the last-minute agreement stands suspended until January 2025 (subject to negotiated expenditure cuts), amounts to 117% of estimated US GDP this year of $26.85 trillion. Clearly, the debt trajectory needed to be turned around.
The US system allows for budgetary appropriations to be passed even if they will predictably lead to the debt limit being crossed. The non-partisan Congressional Committee of the Budget (CCB), housed in the legislature, pointed to the impending crisis long before the June deadline. (It is different from the Office of Management and Budget, OMB, housed in the executive).
The CCB in the US is cited by proponents of a Fiscal Council for India as an independent body which will make fiscal projections for both Union and state governments, assess adherence to FRBM acts, and generally act as a watchdog. I have consistently opposed this idea on several grounds. The fiscal problem in India arises not so much because fiscal limits on the deficit are breached, but on account of the manner in which expenditures are adjusted to fit the targets. Delayed payments to vendors and contractors are among the favourite tricks. Any prescribed interval between receipt of services and payment of vendors can be circumvented by withholding approval of roads built or goods received.
No Fiscal Council can unearth such malpractices without deep real-time access to the relevant database. Governments at either Centre or states will not readily cooperate with an institution which could come back to bite them. Then there are the complexities of federal flows in our system, many of which are tranched and conditional on performance or usage certification at the destination. I have published research showing that even statutory flows from the Centre can be delayed or withheld altogether. When the timing and quantum of fiscal flows from Centre to states, and further to the ultimate destination—the school or health centre—remain opaque, no improvement of fiscal functioning is possible. A Fiscal Council cannot ensure transparency, and on the contrary could well become a pawn in political warfare.
In the end, there is no substitute for the accountability which comes from political maturity. Even the CCB in the US could not prevent the headlong hurtle to the debt cliff edge. The small print of what will get legislatively passed in the US by the 5 June deadline is still not known. Broadly, the debt ceiling stands suspended until January 2025, when a new legislative limit will be negotiated. The present bi-partisan deal preserves the US as a haven for the rich and corporates, on whom taxes will not be raised, but retains opportunities for the skilled and talented, on whom the prosperity of the country is built.
Indira Rajaraman is an economist
