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The International Monetary Fund (IMF) and the World Bank designed the Debt Sustainability Framework (DSF), to assess and manage the debt sustainability of low-income countries (LICs). DSF is a key tool in the overall global financial architecture. It analyzes a country's indebtedness and its vulnerability to shocks through regular analysis of a country's present and projected (over the next 10 years) debt burden. The analysis involves conventional solvency analysis (Debt to GDP, Debt to Export, Debt service ratio, fiscal balance, etc.) and stress testing for potential crisis situations. The idea is to detect potential debt crises early and implement appropriate preventive actions.

DSF, inter alia, guides—

(i)    borrowing decisions of LICs by assessing their financing needs and repaying abilities;

(ii)   LICs how to maintain a balance between their development goals and financial stability;

(iii)  the process of identifying countries under stress and designing a sustainable relief package; and

(iv)  lending decision of creditors ensuring that resources are provided in a way that both development goals and long-term debt sustainability of the borrowing country are aligned well;

(v)   the process of early detection and prevention of potential debt crisis

DSF, in vogue since 2005, has been criticized by several development economists for prioritizing creditors’ interests and failing to account for developmental and climate-related financing needs of LICs, especially in the aftermath of the global financial crisis (2008-2009).

In a recent paper, Kevin P. Gallagher, José Antonio Ocampo, and Kunal Sen, have highlighted that the existing debt sustainability framework, primarily driven by institutions like the IMF and World Bank, focuses on ensuring debt repayment to creditors rather than enabling LICs to meet developmental goals. This approach limits fiscal space for investments in critical areas like infrastructure, education, and healthcare. This is critical as LICs face disproportionate climate impacts despite contributing less to global emissions.

Besides, he framework’s reliance on narrow metrics (e.g., debt-to-GDP ratios) that fail to consider growth potential or external shocks. This can lead to misclassifying countries as debt-distressed, triggering austerity measures that stifle growth. The current framework influences credit ratings, which affect borrowing costs. A flawed framework may lead to downgrades for LICs, even when their economic fundamentals are strong.

The authors therefore advocate reforming the global financial architecture to prioritize developmental and climate needs, including more flexible debt sustainability assessments and increased multilateral lending. It is critical that the framework is suitable revised (i) to integrate developmental and climate financing needs; (ii) to make assessment metrics more flexible to incorporate growth potential and external vulnerabilities; (iii) to make sustainability goals more equitable and just, by increasing multilateral lending and debt-for-climate swaps to support LICs.

Applicability of DSF to India

It is important to note that India’s position with regard to the DSF for LICs is little complex.

The IMF distinguishes between Market Access Countries (MACs) and Low Income Countries (LICs) for debt sustainability analysis. MACs are economies that typically have significant access to international capital markets and rely less on concessional financing (e.g., grants or low-interest loans). India fits this description due to its ability to borrow from international markets, issue sovereign bonds, and attract foreign investment.

IMF assesses MACs using the MAC Debt Sustainability Analysis (MAC DSA), which focuses on market-based indicators like bond spreads, external financing needs, and debt rollover risks, rather than the DSF used for LICs reliant on concessional financing.

However, The World Bank classifies countries based on Gross National Income (GNI) per capita. For the 2025 fiscal year, India is classified as a lower-middle-income country (LMIC) with a GNI per capita of approximately $2,390 (2023 data), falling within the World Bank’s LMIC range ($1,146–$4,515).

Therefore, despite being an MCA country, the DSF is used to assess India’s debt sustainability, particularly for external debt, as part of IMF surveillance (e.g., Article IV consultations) and World Bank lending programs. India is typically classified as having a low to moderate risk of debt distress due to its robust growth (6–7% annually), large foreign exchange reserves (over $600 billion), and diversified economy.

Unlike smaller LMICs, India’s large economy (world’s fifth-largest, ~$3.4 trillion nominal GDP in 2024) and strong repayment capacity mean it is less dependent on the DSF’s outcomes for concessional financing. Besides, India’s borrowing from the IMF has been limited in recent decades, with no active IMF program since the 1991 balance-of-payments crisis. However, the DSF still applies during IMF assessments to ensure external debt sustainability.

Implications for India

Constraints on Development Financing: India requires substantial investments to sustain its growth trajectory, reduce poverty, and achieve Sustainable Development Goals (SDGs). The current framework may discourage India from borrowing for long-term development projects due to stringent debt sustainability metrics, potentially slowing progress in key sectors. For instance, India’s ambitious infrastructure push (e.g., National Infrastructure Pipeline) and social welfare programs could face funding constraints if external borrowing is deemed unsustainable under rigid criteria.

Climate Financing Challenges: India is highly vulnerable to climate risks (e.g., floods, heatwaves, and droughts) and has committed to net-zero emissions by 2070. The paper suggests that the current framework may undervalue the need for climate-related investments, limiting India’s access to concessional finance for renewable energy, disaster resilience, or green infrastructure. This could force India to rely on costlier domestic or private financing, increasing fiscal pressure.

Risk of Debt Distress Misclassification: India’s public debt-to-GDP ratio was around 89% in 2023-24 (per IMF data), higher than many LMICs, but its economy has shown resilience with 6-7% annual GDP growth. An overly conservative debt assessment could mislabel India as high-risk, leading to restrictive lending terms or pressure for fiscal consolidation. This could limit India’s ability to borrow for productive investments, despite its strong repayment capacity driven by domestic revenue and foreign exchange reserves (over $600 billion in 2024).

Impact on Sovereign Credit Ratings: India’s sovereign credit rating (e.g., BBB- by S&P) is already constrained by concerns over high public debt and fiscal deficits. If the framework continues to prioritize creditor-focused metrics, India may face higher borrowing costs in international markets, making external debt less affordable. This could push India toward domestic borrowing, which may crowd out private investment and increase interest rates.