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Sunday, 26 May 2019

The untold story of public debt

Do increases in public debt necessarily hinder growth? Not according to economists

Hatem Y Ezz Eldin , Sunday 17 Feb 2019
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The increasing public debt in Egypt has been a serious issue that is usually misrepresented and poorly explained in the Egyptian media. No one likes to bear the burden of being indebted.

It is annoying and can constrain capabilities and aspirations. It gives you fewer options to manoeuvre. But that is only one side of the story. There are other hidden sides.

The ability to repay interest on loans is one. Overall financial strength is another. The percentage of the debt to gross domestic product (GDP) is a third.

When the Central Bank of Egypt (CBE) publishes the latest figures for the country’s public debt, or when the government inks a loan agreement or receives a tranche of a previously agreed loan, the Egyptian media starts to list the disadvantages of these loans and exaggerates the real “damage” they could eventually cause to an already troubled economy.

However, this is not the full picture. We should try to find out what other elements in the picture are missing.

The public debt is the total amount of money owed by the government to its creditors. Governments spend money on infrastructure projects, healthcare, education, defence, and a wide range of other goods and services. Borrowing money is often not particularly expensive.

When interest rates are low and the economy is going through an economic slowdown, it can be more desirable for governments to borrow than, for example, raise taxes.

Egypt’s external debt stood at $93.13 billion at the end of the third quarter of 2018, up by 15.2 per cent. Domestic debt also increased by 5.2 per cent year-on-year to LE3.887 trillion in the same period.

But the percentage of public debt to GDP in Egypt was cut to 97 per cent, down from 108 per cent a year earlier. The government aims to cut the percentage to 80 per cent over the next four years.

Globally, the world’s debt is approaching a historic level of U$250 trillion. In the US, the percentage of public debt to GDP was 106 per cent in 2018. In Italy and Belgium, the percentage stood at 130 per cent and 102 per cent, respectively. In Japan, the percentage is as high as 236 per cent.

The percentage of global debt to GDP is around 328 per cent. So, why are the heavily-indebted advanced economies performing better than the emerging ones? The answer is mainly due to better debt management. If public debt is properly utilised, it can spur economic growth and strengthen the capacity to repay domestic and foreign arrears.

Is it true that the rise of public debt always damps economic growth by depressing capital formation, crowding out investment, and encouraging capital flight?

Not necessarily, argues economist Shaimaa Emara, who writes that “nowadays, loans have become the main player in achieving development across the world.

Developed countries are the heaviest borrowing countries. Developing countries could reach economic growth if they depend on managing loans according to rational planning by using such loans in establishing development projects.” Therefore, debt can generate future growth, but fiscal discipline is also crucial.

The volume of debt has not been a serious challenge to the Egyptian economy in recent history, and the real challenge has been the inefficient management and utilisation of such debt.

Corruption also obviously limited the use of borrowed money in the past. For example, during the time of Said Pasha in 1854, the total loan incurred by Egypt was some LE18 million or five times the annual revenue of the government at the time.

The loans were not efficiently utilised and were not directed to industrialisation or development projects.

The amount of public debt increased as society’s needs grew due to poor economic management, regional instability, and corruption.

The inefficient implementation of economic reforms and structural adjustment policies during the 1990s in particular led to the accumulation of Egypt’s current public debt.

Higher spending on inefficient sectors and the rise of the costs of imported materials, high subsidies, and public-sector wages all added further burdens.

The reasons for the country’s higher debt after the 25 January uprising in 2011 were due to higher government spending, especially on public-sector wages and subsidies, economic and political uncertainty, the suffering of vital income-generating sectors like tourism and increased tax evasion.

The economic reform programme launched by the government in mid-2014 has started to solve many such problems through rational spending, tightening controls on tax payments, and gradually lifting energy subsidies.

Tourism has started to recover, and there has been an increased appetite among foreign investors to pour money into promising sectors in Egypt, adding to the country’s credit rating. Exports are recovering, and the current account deficit is falling. Confidence has improved, and investment has picked up.

However, the devaluation of the local currency coupled with higher international prices for both goods and services has led to more borrowing and hence to higher debt.

The government’s reform programme is being supported by a $12 billion loan from the International Monetary Fund (IMF), two-thirds of which has been delivered. Another $2 billion tranche was disbursed recently.

The positive impact of the IMF loan to Egypt has been notable. Daniah Orkoubi, an economic expert, supports this view. “Egypt’s economy has been subject to macroeconomic challenges for the past several years.

Both government and citizens can feel the positive impact of the EFF [IMF extended fund facility] arrangement on Egypt’s macroeconomic stability.

The improved macroeconomic outlook has been manifested in terms of the reduction of the unemployment level from 12.7 per cent in January 2016 to 8.9 per cent as at January 2019, the lowest since 2011.

The GDP growth rate has jumped from 3.6 per cent in January 2016 to 5.5 per cent as at January 2019. The narrowing of the current account deficit from -6.0 per cent in 2015/16 to -2.4 per cent in 2017/18 reflects a rebound in tourism and strong remittances.

Furthermore, the improvement of economic conditions is projected to continue over the medium term,” Orkoubi explained.

It is expected that Egypt’s public debt will be sustainable until 2020, but with the increase in economic growth the impact of reducing the public debt will be significant only with the greater rationalisation of fiscal policies.

Egypt’s repayment capabilities are solid. The country has never been late in paying the interest on loans to any creditors over the past several years.

It is true that Egypt’s debt-management is better now, but better debt-management is not enough for development and growth. It is also important to direct loans to development projects, rationalise public spending, restructure revenue sources, implement further tax reforms, support capital market reforms, limit excessive borrowing, and find other sources to finance programmes.

Public debt is not a bogey. It can be easily tamed with smart planning.

* The writer is an economic expert based in Riyadh.

*A version of this article appears in print in the 14 February, 2019 edition of Al-Ahram Weekly under the headline: The untold story of public debt

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