Deleveraging Government Balance Sheets

In many countries in the world today , the government borrowing has reached a level whereby more borrowings would put a strain on the economy and growth. In some countries, the borrowings had exceeded the acceptable limits and threatening the viability of the Economic systems. The accumulation of debt in many countries was accompanied by good growth. But when the growth slowed down and witnessed a flattening trend, the servicing of Government loans alone had consumed lot of resources generated by the government.

Reduction in interest rates as a part of the stimulus in the recent years, enabled governments to borrow funds at cheaper rates thereby reducing the pressure on account of high interest rates. But this trend cannot continue for a very long time and interest rates have to move up.

The countries which have high foreign debt have very high economic risks and the ones having high domestic debt are protected from high forex volatility. The ones having high domestic debt have high adaptability and flexibility and hence there is a need for countries to be careful when the foreign debt is being accumulated in the form of sovereign bonds and corporate debt.

Going forward, Governments across the world have to develop focussed debt management strategies and maintain the debt within the manageable levels and ensure orderly economic growth. There is a need to deleverage the balance sheets of the governments.

1. Achieve higher GDP growth through improved productivity of funds / resources. Since economic systems across the world had grown large and complex , there are many inefficiencies in the system. By focussing on productivity of resources, the need for capex by governments could be reduced, the surplus from deployment of assets would increase thereby reducing the need for large incremental debt funds for growth and service. The countries which have good economic growth rates will have an advantage in achieving this objective and reduce the need for borrowed funds and also the ratio of borrowed funds to the GDP could be held at healthy levels.

2. Maintain an inflation level of 3 – 4% p.a. Though inflation is a market determined variable in many countries , this is being controlled in many countries through government intervention and policies. The countries which are growing would be in a position to reduce the debt burden through inflation but there are many countries in the world which are having very low economic growth and low inflation and they would find it difficult to manage the debt and debt servicing.

3. Reduce the interest rates. This is the strategy being followed in the recent past whereby the governments  resort to very high borrowings, which did not result in high burden on interest servicing. Low interest rates make the loans affordable and repayment capacity is being enhanced.

4. Privatise the Government owned organisations. The role of government in initial phases of industrialisation was to establish the essential industries for Economic growth and in the present context , the government has to play a major role in orderly and stable economic growth. Since in many countries the level of industrialisation is very high, the need for government to invest in major industries is limited. The private sector in many countries are well developed and they will be in a better position to take over the so called essential industries. The governments can even look at disinvestment to the extent of 100% in the sectors where they are present and to reduce the forex loans, they could even invite foreign companies to take over the assets. This will generate funds .

5. Fund mobilisation. While raising funds, the governments could look at raising funds through the equity structure or equity type instruments, wherever the vehicles for raising resources are available. Only in case, the options for raising equity based funds are exhausted, the government could borrow through debt instruments.

6. Sources of funds. The emergence of capital markets offers many options for governments to raise funds through various sources. The options for raising funds could be based on the tenor of the funds available and the interest rates. The preference could be for sources from which concessional funding is available for long periods of time. The prioritisation of the sources based on similar criteria would enable orderly raising of debt.

7. Dividend. In many countries, still the government companies are one of the largest in their sectors and they continue to make good profits. The companies which make a very high surplus can pay generous dividends to the shareholders thereby, the governments also benefit through receipt of higher dividends.

8. Negotiate with Creditors for reduction of debt. In many instances, the countries had accumulated very high level of debt, which is not justified considering the size of the economy and repayment capacity. If the lenders and investors had made careful decisions , then the countries could have not accumulated large level of debt beyond their capacity to repay. The lenders , investors should have taken precautions and done the due diligence in investing in such instruments. Partly lenders are responsible for big debt accumulation. Hence, when it comes to debt restructuring, the lenders have to take a cut in valuation of their investments. Based on the future ability to repay, the country in distress would be able to extract a discount on the outstanding loans from the lenders.

9. Government Expenditure. In well developed and advanced countries where the growth potential is very low, the need for higher government expenditure is limited. In fact, the countries which have low potential need to look at improving the productivity of the resources and in line with the technological developments increase the productivity of the manpower and other resources. The non essential items and the ones with high cost implications in relation to the productivity could be considered for cost reduction. Manpower is one area which offers a very big scope for improvement in productivity. Subsidies is another area which offers lot of scope for reduction. Instead of providing subsidies, loans through directed lending by banks could support the targeted beneficiaries which will also help in creating enduring employment and sustainable businesses. The expenses on aid to other countries, defence and supporting new industries like renewable energy , offers scope for reduction of government expenditure.

10. Taxation. In many countries , when the tax rates were slashed, the revenue collection witnessed a multifold increase. The countries where the tax rates are very high, the tax compliance levels are very low. Some countries are in a very bad shape and there is a scope to  raise resources from those who are earning very high income . The countries where the residents had parked their income abroad without declaration, tax amnesties could be given and voluntary disclosure schemes could be introduced. Depending on the circumstance, the increase / reduction of tax could be looked at and voluntary disclosure schemes could be introduced.

11. In an initiative to create competitiveness, the countries allow currencies to depreciate. In the short term, it creates competitiveness but when the country relies on borrowed funds for growth especially through external borrowings, the depreciation of the currency leads to undesirable efforts in the long run . The value of external debt in relation to the borrowing country’s currency goes up. The strategy of achieving competitiveness should be approached with big caution to ensure that it is not going to  be a burden in terms of higher debt going forward.

12. Land. In high growth countries, the land in growing regions are in great demand and since Governments in many parts of the world were the early ones to set up industries, they own prime land in cities and growing regions. Governments also develop new centres of manufacturing and services. Sale of land can be a big source of funding for government which can reduce the need for debt. Many of the government companies which are in old industries, not doing well, own prime land and these companies can capitalise on the land to generate funds which could be given to the government in the form of dividends.

13. Looking at many countries balance sheets today, it appears that they would not be in a position to service even the existing debts. Adding more debts would worsen the situation making the economic viability of the country in jeopardy. In such cases, the scope for printing money without creating debt could be looked at. In the earlier post, I had discussed the criteria which could be looked at for creation of money without debt.

14. In many instances, governments have huge outstandings to be collected from other countries, corporates and individuals. The delay occurs due to many reasons including legal proceedings. The governments can identify action plans to collect the outstandings. Especially, the legal proceedings with Government departments and Government enterprises could be concluded through a separate mechanism to be created by governments. On the debt to be collected from corporates and individuals , action plans could be identified to collect the same.

15. There is a lot of cross border , mutual debt existing between countries. At the country level, an institution could be created for consolidating all the debt from within the country and from outside the country ( this could include even individual and corporate debt ) on country wide basis. The pooled debt through a process or through an international institution could be extinguished through a mutual process of consent. The foreign debt extinguished in the case of Individuals and Corporates could be substituted through local /domestic debt. This would help the Country to maintain good credit rating at the country level and help the borrowers from the country to obtain low rate of interests for foreign loans.

R.Kannan