Fiscal profligacy will result in an economic downturn some day whether a country is developing or developed
The Stabroek News editorial on Wednesday, January 16, 2013, ‘Managing Jamaica’s economy’ highlighted the difficulty of sustaining a large public debt. However, unlike the past when high public debt was a characteristic of developing countries, today even the most advanced developed economies are plagued with high debt burdens. Jamaica has once again reluctantly turned to the IMF as a last resort. However, it will be aware of the implications of the austerity measures that will be recommended that forced last year even an advanced European Union member Greece into political and social turmoil. The reality check indicates that both developed and developing countries are caught between a hard rock and a stone once their public debt breaches the sustainably threshold, with no easy solution in the horizon.
While your editorial seemed to emphasize the “high external debt… of J$1.7 trillion equivalent to 128% of the GDP” as the main problem, my own reading of the situation is that the domestic debt is even more burdensome. The domestic debt in Jamaica has higher interest rates and a shorter maturity period. Even after the government successfully launched the Jamaican Debt Exchange (JDX) in 2010 to reschedule the domestic debt it was still equivalent to half of the public debt or 60% of the GDP. The JDX achieved the participation of all domestic debt holders and succeeded in restructuring the debt stock by lengthening the average maturity from 5.3 to 8.7 years, while the coupon rate was lowered from 17 per cent to 11 per cent (CEPR 2011). It should be noted that the average interest is 7.4 per cent on domestic debt, higher than the 6% average for external debt that has longer maturities.
The almost doubling of the domestic debt in Jamaica took place in the later period of the ’90s as the economy grappled with a serious financial crisis. The government created the Financial Sector Adjustment Company (FINSAC) to nationalize, break up and merge the troubled financial institutions. The FINSAC debt equivalent of 34 per cent of GDP was transferred to the public coffers (King and Richard 2008). Further, the collapse of Lehman Brothers in September, 2008 in the US escalated the contagion effect of the global financial crisis, forcing Jamaica to inject some J$4.6 to J$5.3 billion into the economy, thereby further aggravating the fiscal deficit (CEPR 2011).
Jamaica is not the only Caribbean country that is now burdened by high public debt. The small Caribbean countries of the OECS group of countries led by St Kitts and Nevis are heavily riddled with huge public debt that ranges from 140% to 70% of GDP.
The current era finds the public debt of advanced developed countries at the top of the cliff. Fareed Zakaria in Foreign Affairs (2013) pointed out that the US economy’s public debt rose from 40% of GDP in 1980 to 107% in 2012. During the same period, the comparable debt for the United Kingdom moved from 46% to 88%. Most European governments have a debt to GDP ratio that hovers around the 80% level, while Greece, Italy, Spain and Portugal have ratios that are much higher. In 1980, Japan’s public debt to GDP ratio was 50%; today it is 236 per cent (Zakaria 2013). The worsening public debt has pushed the single currency in Europe to teeter on the brink of a crisis last year. The brinksmanship in the US Congress over the debt ceiling last year led to a downgrade of government bonds. Congress noted a deal is necessary to avert another crisis by March this year. There is definitely no easy landing for these high levels of public debt in the advanced developed economies.
In the past multilateral debt relief initiatives such as the Highly Indebted Poor County Initiative (HIPIC) and the Multilateral Debt Relief Initiative (MDRI) were able to bring the debt in the highly indebted developing countries to a level of sustainability. There are simple no magic bullets for the current debt burdens experienced by both developed and developing countries. Moreover recent studies and researches show that while borrowing can stimulate gross capital formation, a breach of the threshold occurs when the debt to GDP rises above the 55% ratio. At this point the debt begins to impact negatively on growth and internal and external balances. Domestic debt is as burdensome as external debt. Even though the domestic debt does not require foreign exchange to service, it competes for scarce domestic resources, and as a result Jamaica was unable to meet most of it MDG targets. Finally, the current debt situation globally shows that it does not matter how rich a country is or how well it performs, fiscal profligacy will result in economic downturn some day.