Fiscal discipline must start with better spending: With global public debt rising, economists remain divided over how much debt governments can safely carry. The concern is that high debt can narrow fiscal space, squeeze developmental spending and complicate monetary policy. The counterargument is that debt cannot be judged by its size alone. If borrowing finances expenditure that raises productive capacity and economic growth, a higher debt burden may remain manageable. The Domar condition captures part of this argument: when nominal economic growth exceeds the effective interest cost on public debt, debt dynamics can remain sustainable.
For India, the debate has another dimension. The country still has significant supply-side constraints, so a fiscal expansion that raises demand without expanding productive capacity can add to inflationary pressure.
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There is also a political economy problem with public expenditure. Spending on health and education can generate large social returns, but some programmes become difficult to withdraw once they acquire a broad political constituency. Cash transfers and schemes with wide eligibility are particularly difficult to reduce. If such expenditure grows faster than the economy’s capacity to generate resources, it can eventually compete with public investment.
Inflation and the fiscal constraint
The inflation concern today does not arise primarily from the prospect of uncontrolled deficit financing. It arises from the interaction between fiscal expansion and an economy in which supply does not always respond quickly to higher demand.
India remains vulnerable to supply shocks in food, energy and other commodities. Infrastructure constraints, shortages of skills and weak logistics in some parts of the economy can make adjustment slow. When demand rises faster than supply, the result can be higher prices rather than a sustained increase in output.
The Bank for International Settlements has made a similar point in its recent work on energy shocks. The effect of an oil shock on inflation depends on the conditions in which it occurs. Supply constraints, strong demand and rising inflation expectations can make the pass-through from an energy shock to broader prices stronger and more persistent.
Fiscal policy can add to that pressure. Government support during a supply shock may be justified, particularly when poorer households are affected. But broad and prolonged support can sustain demand at a time when the economy is already facing a shortage of supply. The BIS has pointed to this trade-off in its assessment of recent energy shocks, noting that governments entered the current episode with less fiscal space than they had during earlier crises.
Higher debt also leaves governments more exposed to changes in interest rates. When borrowing costs rise, a larger share of the budget has to be devoted to debt servicing. The problem becomes more serious if nominal economic growth no longer exceeds the cost of government borrowing. The BIS has noted that this relationship has become less favourable in many countries and that governments can no longer assume that economic growth will automatically stabilise their debt ratios.
Fiscal dominance is a more extreme manifestation of the same problem. It occurs when the government’s financing requirements begin to constrain the central bank’s ability to pursue price stability. India is not in such a situation today. The government is pursuing fiscal consolidation, while monetary policy continues to operate within an inflation-targeting framework. But the possibility of pressure on monetary policy cannot be dismissed if persistent fiscal deficits were to push borrowing costs substantially higher.
That is why fiscal discipline and monetary credibility cannot be considered separately. A government that wants the central bank to contain inflation must also avoid creating fiscal conditions that make that task unnecessarily difficult.
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More money is not the same as better spending
This does not make a case for cutting expenditure on health or education. It raises a more basic question: how effectively is the money already being allocated being used?
The education budget provides a useful illustration. In 2024-25, the Ministry of Education’s spending was estimated to be about 5% below the budget allocation. School education was expected to underspend by 7% and higher education by 2%. Several important schemes were also expected to spend less than their original allocations. PM-POSHAN, PM-SHRI and STARS were among them, while PM-USHA spending was estimated to be 51% below its budget allocation.
These numbers do not establish that fiscal rules caused the shortfalls. Nor does an unspent allocation automatically mean that a programme has failed. Delays in approvals, procurement, identification of beneficiaries and release of funds can all affect expenditure during a financial year.
The point is narrower but important. India cannot assume that larger budget allocations will by themselves close its human-development gaps. If programmes are unable to use the money already provided, the first task should be to identify and remove the administrative and institutional constraints responsible for the under-utilisation.
The same principle applies to new technology. Artificial intelligence could improve the productivity of expenditure in education by helping identify learning gaps and adapt teaching material to individual needs. In healthcare, digital tools could reduce the cost of some forms of consultation and improve access to specialist advice in underserved areas. But these gains are not automatic. Technology requires reliable digital infrastructure, appropriate regulation and people capable of using it. Investment should therefore follow evidence of improved outcomes rather than enthusiasm about the technology itself.
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Public investment has a role in controlling inflation
There is another reason for putting greater emphasis on capital expenditure. India’s supply constraints cannot be addressed through monetary policy alone.
Investment in irrigation, rural roads, storage, logistics and other infrastructure can increase the economy’s capacity to respond when demand rises. Better connectivity can also integrate markets and reduce the effect of local supply disruptions on prices.
This is particularly relevant in agriculture. A shortage in one region can produce a much larger price increase when goods cannot move easily or when storage capacity is inadequate. Better transport and warehousing can reduce such bottlenecks and improve the connection between producers and markets.
The case for capital expenditure is therefore not simply that it supports growth. It can also make growth less inflationary by allowing supply to respond more readily to demand.
Modern Monetary Theory takes a different view of the constraints on government borrowing. Its proponents argue that a government issuing its own currency is ultimately constrained by the availability of real resources and the risk of inflation rather than by the conventional requirement to finance every increase in expenditure through taxation or borrowing.
That argument deserves a place in the debate, but it does not eliminate India’s practical constraints. The country has limited productive capacity in several areas, and additional government spending can put pressure on resources before new capacity comes on stream. The relevant question is therefore not whether government debt is inherently harmful, but what the borrowed money is used for and what the economy can absorb.
India’s fiscal choices should reflect that distinction. Social expenditure remains necessary, particularly in health and education, but allocations should be accompanied by greater attention to implementation and outcomes. Capital spending that expands productive capacity deserves priority where supply constraints are holding back growth or contributing to price pressures. Technology can improve the effectiveness of existing spending, provided its benefits can be demonstrated.
Fiscal discipline is ultimately about the quality of government spending as much as the size of the deficit. India has large developmental needs and cannot afford to meet them by borrowing without regard to the return on that borrowing. The stronger approach is to make existing expenditure work better, protect spending that builds human capital and keep adding to the productive capacity of the economy. That is the fiscal discipline required for sustained growth.
Rewanth Raichooti is a Research Associate at the Council for Social Development, Hyderabad. R Sree Snehitha is a graduate student at PSG College of Technology, Coimbatore.