Is there a limit to external debt?
October 17, 2012
Government is borrowing money by issuing bonds to both foreign and domestic private sector with the condition of buying them back later on. The Central Bank expands its money supply to make up the budget deficit or also it buys government bonds. Also when overcoming their budget deficit, developing countries acquire soft loans and financial assistance from developed countries as well as international development banks.
Our country used to get loans from the USSR to make up for its deficit and went into a deep crisis after the communist regime collapsed. Although Russia, which inherited all receivables and payables that belonged to the USSR, claimed approximately USD 10 billion from Mongolia, it was settled for about USD 300 million. Only the government owed all the external debt because there was no private sector existing until 1990.
Since the transition to market economy in 1990, the Government of Mongolia has been closing its budget deficit with soft loans and financial assistance provided by foreign countries and international development banks. Democratic Mongolia has received a total of USD 4 billion in soft loans and financial aids, 28 percent of which came from the Asian Development Bank, 20 percent from the World Bank and the other 20 percent from the Japanese government.
Let us talk only about the external debt of Mongolia without getting into the sale of government bonds to domestic banks, or the distribution of USD one billion by the government after “borrowing” a loan from a previously established other funds like “Development Fund”
Size of debt
Public external debt (government debt) includes debts owed by the government, state-owned enterprises, companies and the central bank along with guarantees provided by the government and the central bank.
The Mongolbank informed that the external debt of Mongolia reached USD 10.9 billion, 2.8 billion of which was owed by the government and the rest by the private sector, as of the first quarter of 2012.
Last week, the parliament approved the proposal initiated by N.Batbayar, the Minister of Economic Development, to issue government bonds worth USD 5 billion. The first USD 1.5 billion bonds will be issued shortly.
The Development Bank of Mongolia issued government guaranteed bonds worth USD 580 million to international market starting from March 15, 2012. If the bonds worth USD 1.5 billion to be issued by the government are taken into account, the government debt of Mongolia will be increased by USD 2.08 billion only this year.
For the first time ever, Mongolia is acquiring five-to-ten year loans with high interest rates (but lower than domestic rates) from foreign private sectors through the capital market beginning from this year.
How much debt do we have?
The Development Bank’s USD 580 million is a loan with an interest rate of 5.75 percent and is to be paid off in five years’ time.This means that the government has to pay an interest (coupon) of USD 33.3 million a year until they pay USD 580 million on March 15, 2017.
If the government manages to sell their bonds worth USD 1.5 billion with an interest rate of four percent a year as the Minister suggests, they will be paying an interest of USD 60 million per year, which means USD 170,000 a day. The reason I doubt the government may not manage to do that is that the Government of the Philippine issued 25-year bonds with a 5.0 percent interest rate and the Government of India issued 30-year bonds with 5.25 percent interest rate the beginning of this year before the current economic crisis hit the world.Therefore, as the crisis has already begun, short-term bonds including five-to-ten year ones should become more expensive. Furthermore, budget pressure in the upcoming years will also depend on when and how the remaining USD 3.5 billion bonds are issued .
We have to be cautious of the pressure the interest payments of these bonds will produce on public budget and the difficulties to be arisen in the years the principal payments are due (these payments are called Contingent Liability).
External debt burden of a country is measured by the ratio of interest rates of that year and amount of principal payment to Gross National Income (GNI) and export earnings. According to a World Bank report, external debt load in developing countries was equal to 20 percent of GNI and 70 percent of export income on average in 2011.The report also noted that the foreign direct investment (FDI) and the capital investment were bigger than foreign loans net inflows in these countries.
As for Mongolia, the ratio of the total amount of our debt (USD 10.9 billion) to the GNI (USD 14.1 billion as the sum of GDP USD 8.5billion +USD 277 million transferred from abroad + USD 5.3 billion FDI) is 77 percent. And, the ratio of the total amount of debt to our export income, which was USD 3.8 billion, is 300 percent. When compared to average developing country, it is three times higher than the GNI and four times higher than the export income, which shows that the external debt of Mongolia is completely enormous.
Public external debt has doubled in 2012 while FDI has been dramatically reduced compared to last year and exports experienced a decrease. Therefore, the debt load will only increase. However, the GDP reaching USD 11 billion in 2012 will have a positive impact.
Designation of external debt
Government bonds are low cost and they could be financing sources of money in mid-term and long-term and let banking and financial private organizations to raise funds on the world capital market. This will eventually bring a positive impact on reducing interest rates of commercial banks in Mongolia.
The Deputy Minister of Economic Development O.Chuluunbat’s idea to get long-term loans with low interests from abroad and to buy housing loan packages from commercial banks might increase money circulation in the market and may offer many people cheaper loans.
However, risks associated with each loan have to be calculated when buying these mortgages. Also, when lending the revenue generated by bonds, they should make sure that commercial banks are restricted from increasing their margins too much. Only then, the mortgage market size can be expanded.
Revenue generated by bonds has to be spent only on constructions of railroads, power stations or infrastructure of an industrial park. The private sector would establish an industrial park, produce value added products, export them and government can receive benefits of investment from tax imposed on their income. Bonds must have a clearly stated designation and a responsible owner.
Capabilities of the our government
There is no difference between the Government and the Development Bank anymore. In theory, the Development Bank must only make investments in bankable, repayable businesses.
The Development Bank wasted USD 90,000 every day when they did absolutely nothing with their bonds for six months. This is the proof how much fruitless expenditure can occur if they keep following a Russian principle “take it if they give you, run away if they beat you.” The issued bonds must not be invested in projects that were not thought through thoroughly.
In order to successfully carry out a task, the Government has to make its responsibilities clear from the beginning, make good calculations on each investment and emphasize on timely implementation.
The external debt of Mongolia is increasing, and its expenditure is increasing the pressure mounted on the public budget. Therefore it is time that potential pressures were predicted and every project funded by external loans was carried out with due
Mongolia needs cheaper funding but the most important thing iswhat values have to be created and for how long in order to pay off the debt on time.
Transleted by B.AMAR
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