Dynamics of public debt sustainability in major Indian states

Abstract

This study empirically tests whether the public debt is sustainable or not at 22 major Indian states during 2006–07 to 2015–16. It employs the Bohn model for panel data, five alternative specifications and p-spline technique to analyze the issue at aggregate and disaggregate levels. While the results indicate that the debt is sustainable at the aggregate level, it is sustainable only in about 11 states. The results suggest that the fiscal reaction function is linear and the central grant-in aid is an important and a significant undermining factor of sustainability. If the grant-in-aid is excluded from the primary balance, there remain significant positive responses at the aggregate level. However, at the disaggregate level it is significant in only 11 states. Further, the most sustainable states fail to meet the no-Ponzi condition and so the policy intervention is required to improve the debt situation of the states where debt is unsustainable.