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Variables in benchmark for public debt sustainability

Karachi: Has the Fiscal Responsi­bility and Debt Limitation Act 2005 — that defines and fixes the public debt-to-GDP ratio at 60pc and provides a benchmark for debt sustainability — lost its validity or relevance? Or does the fault lie in its design?
The above question is what comes out from the public debt dynamics as presented by a senior researcher in the State Bank.
The research demonstrates that ‘the statutory slippage per se does not indicate looming debt distress’. Nor do ‘deviations’ in debt-to-GDP ratios among different national markets in the region ‘speak anything significant about the (debt) sustainability’.
A key issue is that debt and its servicing cost needs to be brought down to create required fiscal space for development of ‘strategically important sectors of the economy’
In her paper (the SBP staff notes) on ‘Perspective on Public Debt Sustainability’, Asma Khalid argues that the ‘threshold size beyond which a credit event (crisis) can take place varies from country to country and from time to time in a country’.
In 1989 the credit event took place in Jordan when the external debt was 179.5pc of GDP. Albania faced a crisis with a debt burden of 45.8pc a year later. Peru defaulted with debt burden with 62pc in 1984. Six years earlier it had defaulted when its burden touched a peak of 80.9pc.
Instead of size, the analyst observes, two factors matter for gauging liquidity comfort: the existing foreign exchange cover and the future expected balance of payments.
She assesses debt sustainability from the perspective of liquidity, solvency, statutory ceiling and externalities.
But the above views are not shared by independent economists who have criticised the financing ministry for surging debt levels, including short-term borrowing, and exceeding the debt ceiling prescribed by an act of the parliament. Politicians have also voiced their concern over rising government borrowings.
Pakistan’s public debt-to-GDP ratio rose to 66.6pc last fiscal year — much in excess of the Fiscal Responsibility and Debt Limitation Act 2005’s defined and prescribed ratio of 60pc. In fact the ratio has hovered around 65pc over the past 5 years.
But from the sustainability perspective, the State Bank finds ‘recent changes in the public debt profile’ as ‘‘encouraging’ and the short-term debt coverage of foreign exchange reserves ‘comfortable.’ …. And the domestic debt does not pose any imminent risk on solvency or liquidity front.’
Asma Khalid, along with her two colleagues Muhammad Idrees and Talha Nadeem also wrote the chapter on ‘Domestic and External Debt’ for the SBP annual report 2015-16.
In addition to public debt, external liabilities were recorded at 1.3pc of the GDP at the end of June 2016. The SBP annual report does caution the government going forward: ‘challenges have lately emerged with respect to tenor and cost of fresh borrowings.’
The share of short- term external debt of both public and private sector has gone up from from5.2pc to 6.2pc in FY16.
Analyst Asma stresses that public debt requires an objective assessment of key trends and vulnerabilities. The evaluation should be done in entirety, resting the analysis on few selected indicators is a compromise on the assessment. On that basis and as things stand, ‘public debt dynamics do not suggest a disturbing situation. The domestic debt in particular does not pose any imminent risk on solvency or mobility front’.
And on foreign debt servicing the paper says: ‘Although the country has sufficient foreign exchange at hands to make up for scheduled repayments for the next five years, risks linger. Pakistan must generate surpluses in the external account in order to pay off and service external debt without creating additional debt. Therefore concentrated efforts are required to boost exports and other foreign exchange earnings to ensure smooth repayments in the future.’
‘Public financial management needs to be strengthened further and debt levels be cut down as the large volume of debt serving is eating away a big chunk of the country’s resources.’
Prudent cash management is required to avoid unnecessary borrowings with focus on tax efforts, privatisation of loss-making units and curbing inefficiencies.
Curbing inefficiencies is a major problem, as pointed out by the analyst, especially in foreign funded projects whose cost benefit ratios are generally upset by delays, cost overruns and leakage of funds.
Finally whatever be the sustainability level or benchmark of public debt, a key issue is that debt and its servicing cost needs to be brought down to create required fiscal space for development of what the SBP states are ‘strategically important sectors of the economy.’



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