Why You Should Care about Public Debt Debates Under Federal Nepal?

– This article was originally published by Jaya Jung Mahat in The Himalayan Times on July 8, 2018.

In May 2018, immediately after taking the oath for the seventh Prime Minister of Malaysia, Dr. Mahathir Mohamad had announced that his government would revise country’s policies and programs so as to control his country’s escalating public debt. Few days later, his government made few quick announcements like reducing Ministers’ remuneration by ten percent, canceling much talked-about Kuala Lumpur – Singapore high-speed train and requesting citizens to voluntarily donate money; all targeted at helping government to deal with country’s public debt. During the same time, the Government of Uganda, which was enlisted as one of the thirty-nine heavily indebted poor countries by the World Bank in 2012, had amended the existing Excise Duty Bill to allow the government authorities to tax citizens for using major Social Media platforms, including Facebook and Whatsapp, and collect necessary resources to finance nation’s debt.

Though there exist varying claims, depending upon whom one is referring to, regarding public debt to gross domestic product (GDP) ratios for these two nations, as per the international monetary fund (IMF) data, these two economies stand at different positions in this regard with the former having close to fifty-one percent and the latter thirty-eight percent. Despite noticeable differences, the recent unusual steps taken by these economies must trigger countries like Nepal, where future government expenditures are predicted to escalate after the country recently adopting federalism.

Public Debt Simplified

The governments in poor countries normally do not have enough financial resources to fund most of their large-scale projects. To afford such resource-gaps, countries often borrow money from external and internal sources by issuing treasury bills, government bonds and securities. In addition to these mechanisms, countries like Nepal – who are considered to be the less creditworthy economies – also borrow money from credible international institutions like the World Bank and the Asian Development Bank. In doing so, these countries owe creditors, governments and/or the institutions, thus borrowed money which in terms is called the public debt. It is called either external debt or internal debt if the borrowed money comes from sources outside and inside of the countries respectively.

As highlighted here, the logic behind such deficit financing, i.e., meeting expenditure targets by borrowing, is quite simple. But, economists, politicians included too, have different takes on the issue. Some of them favor public debt while others disapprove it. The proponents, often coming from the Keynesian school of thoughts, advocate that public debts allow governments to work on large-scale projects while also producing spillover effects in terms of generating extra benefits that prevent market failures in the borrowing nations. On the other hand, opponents, often coming from the Classical school of thoughts, view public debt as the unnecessary burden on the future generations. However, experiences from other countries paint a different image of public debt. Despite given risks – market, rollover, liquidity, credit, settlement and operational, if managed well a considerable size of the debt often results in desired economic and social outcomes. For example, debt has resulted in healthy economies for countries like Japan, Singapore, Belgium, United States and Bhutan while it has severely damaged economies of Greece, Italy, Spain and Venezuela.

Nepal in the Context

Nepal formally begun to take loans, domestic and external, since 1962 and 1963 respectively with the former USSR and United Kingdom being the first foreign creditors. Over the following years, the debt has been on rise except during fiscal years (FY) 1978/79, 1991/92, 1992/93, 1994/95, 1998/99, 2001/02, 2002/03, 2003/04, 2008/09, and 2014/15. As per a 2013 study published in the Economic Journal of Development Issues, Nepal’s public debt had increased at an annual rate of 18.86 percent between FY 1975/76 and 2010/11. Between 2011/12 and 2015/16, the growth had been minimal with the growth soaring up again afterwards.

In addition, during the early years, the net public debt was composed of the external debt. However, in recent years, the share of domestic debt has been on rise. As of the most recent Economic Survey, of the total outstanding debt of 8.43 billion Nepali Rupees, debts from domestic and external comprised 46.1 percent and 53.9 percent respectively as compared to the 40.7 percent and 59.3 percent shares respectively for the past FY.

Urgency of public debt debates

The debt to GDP ratio is a good indicator to check whether an economy stands in a position to repay debts without incurring additional debts. As per the IMF’s 2017 Debt Sustainability Analysis report, despite Nepal suffering from major earthquake in 2015 and subsequent economic slowdown caused by border-blockade on southern part of Nepal, the country remains free from debt stress. As of fiscal year 2015/16, Nepal’s debt to GDP ratio was only 27.3 and country was less prone to shocks from the external debt thanks to nation’s improved debt management strategies and the institutions.

However, this does not mean that Nepal can continue to employ past strategies to manage debts in the future, especially after Nepal adopting a federal system. Though, this ratio had been on decline over years – with the year 2001 witnessing record high 69.5 percent, it has been on increasing trend over past few years. And if the World Bank predictions are to be believed, this ratio will become 30.7 percent by the end of 2018 and 37.6 percent by year 2020. With an overall increase in size of the government; new government now comprising of representatives at the federal, provincial and local governments; and prioritization of large-scale projects across the seven provinces, it is very likely that the government will have no option than to borrow money from creditors, preferably from the external sources, to meet all the funding targets which in turn will critically affect Nepali economy. As a result, it is high that the government and all other concerned stakeholders assess their prioritizes well before execution so as to avoid potential debt trap in the future.