Another looming debt trap:

over-borrowing or over-lending?

By Dr Noor Fatima 

From Latin America to Africa debt is posing a challenging agenda for developing countries. What is most at stake? It is the social development programs at the core with economic growth. Actually, it is significant to know that how much our economic lives changed after establishment of International Financial Institutions and their aid program and it is also remarkable that how little material change is visible in economic life of these countries. There is no example of government driven national economy which successfully eradicated poverty with the help of aid over the long run. The more aid, loan is given, the more need is generated with the concern of lover borrowing by the developing countries. The formula of economic liberalism may be good for wealth generation but not good for poverty reduction. It is only a matter of perception other wise, there is no difference whether it is over lending or over borrowing. Indeed, it is striking that considering the past experience not much has been focused on that why the loan is lent without assessing that, who is creditworthy? Is not that often developing countries are persuaded for over borrowing? Are they helped for not ‘bailing out’ or ‘bailing in’ for the success of western banks? So the question is who pays the cost of their generous lending as it is not their endowment but just another loan for returning the original loan. 

The persistence debt confronts us with biggest development challenge for the last more than two decades. Though debt is part of the present finance capital system and integrated world and neo-liberal economic paradigm but still it is not a blessing for the country like Pakistan. The foreign debt and foreign exchange liabilities of Pakistan have mounted over 46 billion dollars by the current financial year.  It has gone up from $33.6 billion in 1999. Following figure is showing the trend of foreign aid the point of concern is not only that over 10 per cent loans are increased during last 8 years, but what they clearly produced in economic performance.

The background and implications of mounting debt shows that during 1990s, Pakistan faced growing macroeconomic imbalances, deteriorating economic growth, with higher poverty. The average economic growth was 3 per cent in later half of 1990s with almost 100 per cent debt to GDP ratio. Pakistan was in a sure a debt trap and the result was that we had to adjust the conditionality of IMF and World Bank and social sector was undermined, which caused poverty, unemployment, unskilled labor production, higher inflation rate with growing greater fiscal deficit. The debt servicing reached to 3.3 per cent of GDP during the period of 2001-02 to Pakistan. In 1990s we needed more loans for debt servicing to pay the principal amount and also meet the current expenditure which is never the purpose of foreign lending, though some relief of $981 (ml) brought by “Paris Consortium” as an economic assistance in 2002 to ease the burden.

In April 2003, to find the solution of financial crises of debt ridden countries, the World Bank and IMF, presented a proposal for an international insolvency procedure (Sovereign Debt Restructuring Mechanism) to achieve the better coordination with creditors. In this meeting the Wolfensohn appealed to the advanced countries to keep financial promises and give 100 per cent debt relief for the poorest countries. The developed counties did not agree with IMF’s complicated proposal and SDRM architect found it hard to imagine its working in practice. As it was not explained that how the waiver of debts owed to the World Bank has to be financed. It was suggested that 100 per cent debt relieve without counter-funding would end up drying up the WB resources. It was concluded that it is up to individual country how much debt a country is able to manage. But this phenomenon is not so simple. The connection between current account balance of payments deficits and borrowing from the IMF warrants an examination. What determines whether a country with a current account deficit turns to the IMF for support? Further why current account deficits appear so persistently in many developing countries in 1980s & 90s.

If a country decides that it can manage 10 billion debt denominated in dollars, and it gets exchange rate problem as we are having these in Pakistan rupees and get higher of half its rate then the amount of debt in our own currency will be doubled and equally debt–GDP ratio will tremendously increase and that becomes beyond the country’s ability to pay. On the same note if the interest rates increase from 5 to 10 per cent a country’s repayment s will be doubled. In case, it has to pay 20 per cent of its export revenue to service the debt, after increased interest rate then the same country has to bear the pressure of 50 per cent more on the foreign exchange reserves. That means the foreign reserve will be depleted fast. That is what happened Argentina in 1990s and also present situation with the Pakistan is not much different as shown in the following figure.

This is not the first time that we are facing such problems, but experience and learning from the last ‘debt trap’ poses the question that is this the only responsibility  of the borrower or there is some responsibility  with the lender also?

It is only the developing countries which have to put more efforts to manage debt to get donor’s support or that there is some responsibility of global financial system. Is that working properly? Why money is flowing from poor to rich? The whole 1990s decade showed that excessive debt is brought to the developing countries, therefore it is easy to understand the political economy of over borrowing. Lenders offer credit, because it is profitable for them and sometime gets kickback in their financed projects and loans. The Structural Adjustment program was a perfect model for more import and less export by the developing countries with the conditions of “trade must be liberalised”. Resultantly their balance of payment situation deteriorated and The IMF then became permanent feature of this vicious circles. They come for fiscal support with the conditionality of tight fiscal and monetary policy for reducing the fiscal deficit of a country through increasing taxation, cutting social expenditure, lowing subsidy, freezing public sector employment and opening the trade borders. Actually where we see ‘no IMF’ those countries like China performed better in that decade. That’s how the over lending is imposed on the countries like Pakistan and Latin America, where the restructuring was not debtor-friendly. Higher cost is associated with delayed restructured and the situation gets to worst and default. That’s the situation where lenders have more leverages for imposing more conditionality to save the country from negative credit rating. The ability to repay is not taken in to account and lender including IMF keep on lending where the risk of return is even higher, because then it is very difficult for a country to get back it’s economic sovereignty unless it pays back. Where as, the failure of loan is then linked with borrows only, the blame should be shared and creditors should take responsibility of over lending and should bear some of the consequences of over lending.

Not leaving all to the creditors, now when another debt trap is looming, it is time to re-think the policy to save the country from falling into another debt trap. As a solution strategy, there is much emphasis by the economist for boosting up the export and to be competitive in export sector, but this is only one factor to get rid of loans but not all. We need a holistic approach keeping in view that all sectors which were suppose to increase GDP performed lower then the projected figure of last financial year. As per the Economic Survey 2007-08 agriculture sector growths turned out to be 1.5 per cent against the target of 4.8 per cent, manufacturing sector grew by 5.4 per cent, against the target of 10.9 per cent, services sector exceeded the target with 8.2 per cent as against of 7.1 per cent. Investment as a ratio to GDP declined from 22.9 to 12.6 per cent. Current account deficit is estimated to 8.3per cent of GDP against 5.1 per cent of GDP of last year. Therefore the major growth registered in the service sector, what we failed to realise is that this sector is just consumer oriented and not providing a firm productive base for capital intensive industry as the manufacture and agriculture could do.

The revenue and expenditure statement of the current budget reflects that revenue sources are still in the traditional sector and not expanded to the new sectors. The volume of economy is not yet extended which is required critically to keep the fiscal and trade balance, otherwise the foreign exchange earning which are already stagnant will continue to deplete on paying debt and its servicing. This is high time that economic managers should be proactive and choose in economic priority for debt retirement strategy with diversification of debt instruments and if debt will sustain, then lesser chances are there for us to get out of vicious circle of debt trap.