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Economists sound the alarm over EA’s rising public debt

Saturday August 24 2013
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While this level of public debt is not excessive, its management requires careful attention.” World Bank

East African Community member states are facing fresh pressure to tame spiralling public debt which has hit new levels.

Fears are now rife that this could hurt growth and make it more expensive for the nations to borrow from the international market, even as Kenya and Tanzania make plans to float sovereign bonds.

Kenya said last week its public debt had surged to $22.3 billion, with the figure likely to hit $23.5 billion by the end of this financial year.

Uganda’s total debt, according to data released last week stands at $6 billion, but is within the country’s ceiling of 35 per cent of GDP. Domestic debt stood at 11 per cent of GDP in 2012/13, against a ceiling of 24 per cent.

In Tanzania, a recent report by the World Bank indicates that public debt has increased from a value equivalent to 30 per cent of GDP in 2008 to a projected value of 45 per cent of GDP by the end of 2012/13.

“While this level of public debt is not excessive, its management requires careful attention,” the 2013 report states.

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Economists say East Africa’s growing public debt, while still sustainable, requires careful attention from governments to avert the risk of pushing interest rates higher, as governments gear up for more borrowing to finance various projects.

READ: Look before you leap, sub-Saharan Africa’s subprime borrowers

Tanzania plans to borrow $1.3 billion through external non-concessional loans in the next two fiscal years to finance a number of new projects, while at the same time keeping its debt to a sustainable level of 46.8 per cent of GDP by the end of 2014/15.

The Kenyan data shows commercial banks are the major lenders to government, which carries the risk of crowding out private investment.

More borrowing also means that the taxes of East African citizens are increasingly going towards servicing debts rather than paying for other services.

“A growing debt requires increased debt service, which means we are using current funds to pay off the debt rather than for other services. If the government needs to continue to borrow to pay off these debts, it is likely to lead to a rise in interest rates to attract investors to the debt, and that in turn could squeeze private sector activities,” said Jason Lakin, programme officer and research fellow at the International Budget Partnership, an economic think-tank.  

A greater public debt could also erode the country’s credit rating, if not carefully managed.

“The key issue here is what this debt is for. Currently, I believe international investors are fairly optimistic that the debt is linked mostly to capital investments that will lead to higher growth, and that there is a real increase in domestic demand associated with growing incomes in Africa generally and in Kenya specifically,” said Dr Lakin.

Kenya’s debt-to-GDP ratio, a measure of the health of a country’s economy, is currently at about 50 per cent, projected to decrease to below 45 per cent in the next three years.

A low debt-to-GDP ratio indicates an economy is producing a large number of goods and services and that brings in enough profit to pay back debts.

Although there isn’t a clear cut agreement on what a country’s debt-to-GDP ratio should be, international financial organisations such as the International Monetary Fund put the figure at around 50 per cent for a developing economy.

Kwame Owino, CEO of the Institute for Economic Affairs Kenya, said that although Kenya’s debt-to-GDP ratio of 50 per cent appears sustainable, what is worrying is that the rise in government borrowing is outpacing GDP growth.

“Debt on its own is not bad. What should be a reason for panic is that the debt growth rate is higher than that of GDP,” said Mr Owino.

According to Kenya’s current budget, $3.9 billion was earmarked to pay public debts, accounting for 20 per cent of the $18 billion budget.

“This is bigger than what we allocated for the ministries of education, agriculture, transport and infrastructure or energy,” said Mr Owino.

“The single biggest payment that this country is making is debts and remember, future interest payments are not factored in. If this continues to rise then it leaves us with very little money for anything else.”

Rwanda’s debt-to-GDP ratio stands at 22.9 per cent of GDP, excluding grants, which is still below the 30 per cent ceiling the government has agreed upon with the IMF. But in March, Rwandan MPs raised the alarm over the pace at which the government is scaling up borrowing.

READ: Rwanda govt allays fears over domestic financing

Rwanda went on a borrowing spree early this year amid economic uncertainty brought about by aid suspensions, with parliament ultimately endorsing in March the government decision to borrow $5 million from Arab Bank for Economic Development in Africa, for Rwanda Development Bank to lend to farmers, while the rest, $12 million, from Opec, is aimed at accelerating the rural electrification programme.

Around the same time, Rwanda also secured $60 million from the World Bank and announced plans to borrow an extra $350 million through the issuance of a sovereign bond to pay off loans that were acquired to finance the national airline.

The government said it would increase its borrowing from the domestic debt market from the $12.6 million that was earlier planned to $31.6 million.

According to Felix Okatch, council member of the Association of Professional Societies in East Africa (APSEA), servicing long term debts should not be a problem for the EAC economies as the region’s export potential is growing.

“The issue is not the public debt levels per se; what we should look at is whether we are able to pay off the loans,” said Mr Okatch.

“The debt is sustainable. Exports are expected to continue their upward trajectory in the EAC. In Kenya, horticulture and tourism are growing, and there’s the recent discovery of oil. Tanzania and Uganda are also very attractive to investors because of their natural resources. So, as a region, we have a very rich export potential.”

In Uganda, technocrats believe the country still has more scope for borrowing.

With an ambitious infrastructure development programme, focusing particularly on plugging the persistent electricity deficits, bureaucrats are looking at borrowing even more as experts warn of downside risks such as spikes in global interest rates and currency stability.

Ugandan Prime Minister Amama Mbabazi said last week the country can still borrow to finance its development projects.

Though corporate executives are in support of fresh borrowing plans as opposed to exploiting a small tax base, lack of a clear implementation roadmap has caused doubts over government’s ability to pull off these plans.

The country’s tax-to-GDP ratio stood at 13.1 per cent at the end of 2012/13, one of the lowest in the region, implying limited potential for funding large projects in the short term.

Almost three months ago, President Yoweri Museveni announced that Uganda would mobilise $200-$300 million from the international markets this year while on a state visit to London, but details about the fundraising programme remain unclear.

Under a new Policy Support Instrument (PSI) signed by Uganda with the International Monetary Fund (IMF) in June this year, the country’s concessional borrowing limit was raised from $1 billion to $1.5 billion, with the additional $0.5 billion directly meant to cater for new borrowing needs related to the $1.4 billion Karuma power dam.

Economists cite exhausted potential for concessional loans, possible foreign exchange shocks and high project overheads as drawbacks to sustainable public debt. This leaves Uganda at the mercy of international markets, where interest rates have lately edged back into the double digits.

“Interest rates in the international markets have risen to 10-12 per cent and new commercial loans will inevitably be pegged on these figures. In this case, economic returns on big energy and road projects ought to exceed 12 per cent to cater for repayment costs in the short term but relative gains from these projects have not been verified.

"Rapid execution of the projects could also trigger sharp gains in the exchange rate against the US dollar due to massive inflows of dollars sourced through foreign loans and this could affect competitiveness in the export segment,” argued Dr Adam Mugume, executive director for research at the Bank of Uganda.

The EAC economies’ level of debt needs to be managed and harmonised, if the region is to realise the monetary union protocol, which is scheduled to be signed in November.

IMF deputy director Robert Nord said that a critical convergence area is government debt, as there is a need to prevent an individual country’s debt from becoming a burden to the others.

“EAC countries have relatively low debt levels. This is a good starting point... A surveillance system is necessary to help member states assess each other’s position in the monetary union. This could be the most difficult part, because no country wants to feel it has lost its sovereignty,” said Mr Nord in a previous interview with The EastAfrican.

So what should governments do to keep debt within manageable levels?

“In Kenya’s case, I believe that the legislature should be playing a bigger role in constraining future expenditure. Lawmakers should understand that debt represents future taxes,” said Mr Owino.

Dr Lakin argues that the priority should be to use debt for high impact infrastructure projects.

“Where possible, it would be good to support the use of pension funds and other domestic instruments to invest in infrastructure so that local investors can benefit but also to reduce currency and foreign debt risk.”

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