THE debt/gross domestic product (GDP) ratio of the government of Singapore is approximately 167%, the highest in the world, while that of the government of the USA is 123%, and for France, it is 110%.
In T&T, the debt/GDP ratio of the government is around 70%.
The debt/GDP for the world at large, which includes debt of governments, the private sectors and households, is 356%.
Hence debt plays an important and varied part in the business of governments and the world in general.
Yet the International Monetary Fund (IMF) warns developing and economically emerging countries in general that their government debt should not exceed 60% otherwise they may risk having an economic crisis.
Many proponents of the Modern Monetary Theory argue that this theory shows that there are no spending constraints on a government that produces its own credible fiat currency and that such a government can create and spend an unlimited amount without a worry about the consequences until there is a surge in inflation.
This is not correct since an economy cannot consume and invest more that it produces and imports and any ex ante imbalance between the two must be corrected by implicit or explicit transfers that reduce the purchasing power of some sector of the economy by enough to bring the two back into balance.
The question immediately arises as to what is the impact of government debt and its size on an economy and how can debt be used to help development yet avoid economic crisis?
When a government spends the proceeds of a specific loan, incurs debt, it will cause more money to become available in certain sectors, causing increased economic demand in these sectors.
If this spending also created new production in goods and services or infrastructure then the increase in demand of the sectors can be satisfied by the increase in supply.
Thus, this kind of spending of a loan, of incurring debt, may even generate an improvement in the growth of the economy besides providing the wherewithal to repay the loan.
If, however, this spending does not produce an increase in supply as in the former case, yet total demand in the economy is increased, the demand/supply balance has to be restored by some sectors reducing their demands to allow the demand increase in the targeted sectors to be satisfied. Indeed, the economy adjusts itself to maintain this demand/supply balance.
If, for example in the latter case, this sectoral demand was because of government spending on subsidies, which have not generated any new economic production then a general price increase, inflation, would restore this balance with government eventually repaying the loan via increased taxes.
In the former case the increase in economic production even, ex ante, will provide increased tax income to the government; in the latter case the loan would place a burden on the existing economy and in certain cases can lead to crisis.
Consider now the case of T&T, faced with a fall in rents from the energy sector, which would cause both a reduction in government spending and a shortfall in forex available to the onshore economy.
If government were to raise a loan to maintain its spending level and use its reserves (or possibly if the loan is in forex), the economy will remain as is, but the ex ante liability of not being able to repay the loan remains, which can be met by the contraction of the economy via for example increased taxes or even sale of assets, if the energy sector did not recover sufficiently.
Consider also the actual case of the building of the Pt Lisas petrochemical and steel production facility.
The genesis of this project was the availability of cheap natural gas, much of which was being flared as a waste product.
The high world prices of oil and other petroleum products could provide a good income to the government and the country as a whole.
Included in the plan was the production of plants that, besides generating raw materials for export, would encourage the local private sector to invest in value-added production using these raw materials.
The plants were turnkey built, foreign marketers were engaged to market the products given the lack of such expertise locally and foreign debt was increased.
The petrochemical plants were soon able to produce competitive products for the world market but the steel plant, using technology that was unfamiliar to what was accustomed locally, found it impossible to produce steel rods at competitive prices and was losing money daily!
Also, the local private sector showed no interest in investing downstream in value-added plants, as the government had hoped to encourage.
Then came the bust in the 1980’s- world prices of oil and petroleum products fell, forex income dropped precipitously and so as not to default on the repayment of foreign debt the government went to the IMF that advised them to sell the petrochemical plants to repay debts.
Further the local currency was devalued and the economy contracted severely- the economy was in crisis!
The steel plant remained in government hands and foreign help was sourced to improve its production costs and market its products. Today the petrochemical market has recovered and the plants provide a valuable source of forex, rents, to the country.
New production trains for LNG were constructed to export some of the natural gas. However, these were now not fully owned by government and given the Pt Lisas experience, the same kind of risk was alleviated by small investments in the trains.
Contributing to economic development
In retrospect the government did the correct thing in providing the Pt Lisas facilities to produce goods for sale on the world market, incurred debt but yet the economy went into crisis.
What happened here? Business projects are expected ex ante to make money and be profitable.
But these projects are subject to business risk, even uncertainty as was the Pt Lisas project. The magnitude of the bust, the risk that the project could collapse became a reality and the economy went into crisis.
Debt for projects is subject to business risk and uncertainty.
We saw the collapse of the Dubai economy and its default on its massive debt caused by the international financial recession of the subprime mortgage fiasco.
Even the Chinese construction sector suffered an economic meltdown, though this was due more so to poor management by the builders and a change in purchasers’ behaviour as a result.
But to return to Singapore and the USA debts: The USA government earns its income mainly from taxes.
Some US$4 trillion is collected but US$6 trillion is spent giving a budget deficit of US$2 trillion. This deficit is funded via government loans, debt, as government securities.
This puts the US economy at a high risk of crisis, which is alleviated by the fact that the US$ is the major reserve currency in the world and held the world over as assets, reserves.
Singapore on the other hand uses it loan funding to set up two local entities, the Singapore Government Securities system and the Singapore Special Government Securities system; the first provides the backbone of the financial hub of Singapore, a very successful financial venture; the second is the basis of the retirement system in the country that provides investment income and funding from the working population that supports the pension scheme of the country.
The examples throughout this discourse emphasise the fact the use of debt by governments as a vehicle to build and support economic productive enterprises contributes to general economic development.
However, as business activities, they are all subject to business risk or uncertainty, which proses the risk of failure.
Thus, the country’s debt/GDP ratio is a function of what the government wishes to do and, most importantly of the risk involved. In the latter, the overall resources in the country play some part, though we saw what happened in the Chinese construction industry.
