The Politics of National Debt Sustainability Ratios – Jekwu Ozoemene

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Anytime governments want to justify why they can and should borrow more they go to the country’s Debt to GDP Ratio. This is especially so for the Government of Nigeria.

An ongoing debate within the economic policy community is the relevance of this ratio to Nigeria’s particular revenue generation versus debt and debt service situation.

First off, my position has always been that regardless of the size of a government’s debt portfolio, the key issue is whether they can generate sufficient revenue to service and repay that debt.

Another concept we need to appreciate is that more often than not, governments never really fully repay their sovereign debt. They simply do what we refer to in banking as ‘rollovers’ or ‘extensions’, as prosperity and economic growth may ultimately make what initially appeared to be huge borrowings increasingly insignificant (for instance, the UK has debt exceeding 100% of GDP in 81 of the last 170 years and has never had cause to default).

So what then is important as regards to the quantum of sovereign debt that a country can sustain?
The cost of debt service.

I repeat, the cost of servicing the debt.

You see, it is sly (actually clever by half) for our macro-economists and politicians to always run to a low Debt to GDP ratio to justify wanton and unsustainable debt.

Why?
Because Gross Domestic Product is the aggregate value of all goods produced in a country in a year and comparing it against the country’s debt is in essence to say, because the country earns xyz from all the goods it produced in a year (since GDP can also be thought of as national income), it can repay xyz debt on the strength of these earnings.

Do you now see the fallacy of this ratio when applied to Nigeria’s situation?

The Government of Nigeria does not have access to all the national income, only the share it collects in taxes! GDP figures we quote reflect activity across the whole spectrum of the national economy, both the public and private sectors however GOVERNMENT HAS TO PAY ITS DEBT FROM TAX RECEIPTS AND OTHER GOVERNMENT INCOME, NOT FROM THE INCOME OF THE ECONOMY AS A WHOLE!

To put this in further perspective, in 2013, compared to a GDP of US$510 Billion, tax revenue from all levels of Government (Federal, State, Local) was about 7.8% of GDP and this is based on about N4.8Trillion (about US$30Billion) collected by the Federal Inland Revenue Service (FIRS), N833.4Billion (about US$5.2Billion) by the Nigeria Customs Service, and about N648 Billion (US$4Billion) by the various States and Local Councils.

More interestingly, if we isolate our national tax revenue from our oil revenue, then Nigeria’s Tax to GDP ratio for the Oil sector will be circa 27% while if you do the same for the Non-Oil sectors you will get circa 4.6%, the lowest in the whole wide world!

Let me break this down further. While the Oil and Gas sector contributes just 10% to our GDP, it accounts for 27% of our Tax Revenue, 40% of our Government’s Total Revenue and over 95% of our Total export earnings.

Do you now understand why our much touted low Debt to GDP ratio makes absolutely no sense in the face of our current national realities?

People are also quick to reference the Eurozone countries as well as the US and Japan’s high Debt to GDP ratios as justification for further borrowing by Nigeria.

Again, this position is because we ignore the fact that a country with a high tax compliance rate can afford more debt than those with low compliance rates. Thus a Debt Service to Government Revenue Ratio reveals the true burden of a country’s debt on the Government’s finances. The Debt to GDP ratio comparison simply ignores this crucial point!

This is for those who still run to the Debt to GDP ratios of the Eurozone countries, the US, and Japan – At the end of the first quarter of 2017, the Government Debt to GDP ratio in the Euro Area stood at 89.5%.
Very high, right?

But Debt Service / Interest payments as a % of GDP / Tax revenue for most of these countries are very low. Take Italy which has one of the highest 2016 Debt to GDP ratios in the Eurozone at 132.6% (down from circa 150%) but has an interest burden versus government revenue ratio of about 5%.

Japan had a National Debt of over 220% of GDP in 2013, yet net debt interest payments was about 1.4% of GDP for the period. The UK and US net interest payments did not exceed 5%. In the US for instance, the US Federal tax revenue in 2012 was US$2.45 Trillion, 11 times higher than the US$220 Billion in net interest payments on the debt and about seven times higher than the US$360 billion in total interest payments.

For our comparator economy, South Africa, the country had a Debt to GDP ratio of 50.10% but Debt Service to Government revenue of 10.23% in 2015.

So back home to our Obodo Nigeria, just look at our Debt Service as a percentage of Government revenue table below (note that the 2017 figure is an estimate) to appreciate why some analysts have palpitations over our current debt profile and our hunger to borrow even more.

Year Debt Service as a % of Government Revenue
2003 34.86
2004 28.72
2005 22.41
2006 12.87
2007 9.16
2008 11.94
2009 9.52
2010 13.46
2011 14.84
2012 18.72
2013 20.539
2014 29%
2015 28.1%
2016 66%
2017 80%????

You see? Therein lies the problem !

If we spent 66% of our 2016 revenue servicing interest on our loans and in 2017 have since spent circa 80% of our revenue servicing interest, how on earth do we intend to pay salaries and how can we fund our Capital Projects?

If we refinance some of the domestic component of this debt into lower interest foreign debt as is currently being proposed; how do we manage the even bigger challenge of the exchange rate exposure?

How do we factor in the potential Fed rate hike in December 2017 (70% probability) and 2018 (60% probability).

Lets discuss, devoid of politics and sophistry.

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