This is no way to manage Public Debt

S. S. TARAPORE

The Financial Sector Legislative Reforms Commission (FSLRC) Report (March 2013) is superbly crafted, but its analysis and recommendations need very careful examination.

This article focuses exclusively on the Commission’s recommendation to set up an Independent Public Debt Management Agency (PDMA).

Historic Evolution

The FSLRC, while recommending an independent PDMA separated from the Reserve Bank of India (RBI), gets into a spat when it says that the RBI has put forth the view that “the expert committees that have recommended an independent public debt management agency have made fiscal consolidation an essential precondition... the Commission is of the view that such a precondition is not stated as a requisite in most Committee Reports”.

While a number of committees and working groups have advocated the setting up of a separate public debt management unit, all these have unanimously recognised that fiscal consolidation is important. While the Fiscal Responsibility and Budget Management Act, (FRBM) was enacted in 2003, ten years on, the Government has not been able to reach the 3 per cent GDF-GDP ratio.

The contextual nature of the recommendations of earlier groups and committees on an independent debt office needs to be appreciated. It is stultifying that the Commission claims that these earlier recommendations did not have any preconditions on fiscal correction.

It is also unbecoming of the Commission to enter into a quibble with the RBI to say that fiscal consolidation is not an essential precondition for setting up an independent PDMA.

The members of the Commission members are persons of great repute and it is unfortunate that they did not deem it fit to remove this statement from the Report.

Structure and Operations

The Commission stresses the need for independence of the PDMA. It would have an Advisory Council and a Managing Committee; both of which would have representatives of the Government and the RBI.

There would be a common Chairman for both the bodies, but other than that, there would be no overlap of membership; within the government and the RBI, the members of the Council will be of a higher rank than in the Managing Committee.

The Commission stresses the need for “consensus decisions” by the PDMA and goes on to argue that “enforcing a consensus requirement is also a way of ensuring that there is co-ordination between the members of the Council”; in government jargon, decisions will reflect the approach of “winner take all” and the RBI would, in practice, find it very difficult to take the extreme route of written dissent. The RBI, by virtue of its membership of the PDMA, would become a ‘vassal state’ of the PDMA.

The PDMA would be empowered to decide its own staff salary structure and outsource a majority of its non-core activities.

How Will the System Work?

An important feature would be that the PDMA will have independent goals and objectives.

The PDMA will be charged with the objectives of “minimising the cost of raising and servicing public debt over the long-term within an acceptable level of risk at all times” (Italics in the Report, Page 114).

How would the cost of borrowing be minimised? The RBI would be committed to the decisions of the PDMA.

Now, the Ministry of Finance has an over-bearing impact on the RBI; under the new set up, the PDMA will push the RBI to create adequate liquidity to see the borrowings through at interest rates acceptable to the government.

With the bulk of banking activity being in the public sector, the PDMA would arm-twist banks and institutions to subscribe to the new issues at minimum rates.

In such a system, even the fig leaf that there has been a move towards market-related interest rates on government securities would disappear. In other words, the system would revert to the erstwhile dirigiste state. Is this what reforms are about?

Preconditions Imperative

To enable the PDMA to minimise the cost of government borrowing it should be mandatory to bring down the GFD to 3 per cent of GDP or less and ensure that repayments do not put a strain on gross borrowing.

The debt repayment problem is being compounded over time. The borrowing programme is designed in such a way that the focus is only on the net borrowing programme; it is the job of the debt manager to ensure that repayments are out of gross borrowing.

It is unfortunate that while earlier Finance Commissions emphasised the need for a Consolidated Sinking Fund to ensure smooth repayments, the fashions of the time are to merely wish away the repayment problem. It is not as if the problem of large government debt would go away merely by the setting up the PDMA.

Time Frame

It would be hara kiri to hastily set up an independent PDMA, say, by an ordinance, without a significant and enduring reduction of the fiscal deficit. The PDMA should be set up only when the government is able to undertake its borrowing without statutory prescriptions, as there could be a constant blame-game between the RBI and the PDMA.

Given how the wheels of legislative change move, it could be decades before the FSLRC recommendation on the PDMA can be legislated.

(The author is an economist)