Govt Debt Sustainability vis a vis GDP Growth

Basic rule is that nominal GDP growth should be more than the interest rate for govt debt to not balloon. If the interest rate in a country is 6% then the nominal GDP growth rate should be more than 6% for govt’s tax revenues to match the increase in its interest outgo. This is so because if GDP growth is lower than interest rate, then the increase in next years’ interest outgo of the govt would be higher than the increase in its tax revenues thereby leading to rising debt which can lead to debt trap.

In case a country is having fiscal deficit additional rule is that the nominal GDP growth should be more than interest rate plus Fiscal Deficit. Thus if the interest rate in a country is 6% and its govt is running fiscal deficit of 4% then the nominal GDP growth rate should be over 10% for govt’s tax revenues to match the increase in its interest outgo otherwise it will lead to debt trap.

Hence in Indian context with fiscal deficit of @ 4% and G Sec rate of @ 6%, nominal GDP growth rate of 10-11% is required not to fall into a debt trap.