Domestic Debt and Market Sovereignty


Guest Columnist

By Abraham Nwankwo

For a shared understanding of Nigeria’s domestic debt, it could be useful to organize a discussion along the following dimensions: (1) size and sustainability; (2) effectiveness of use; (3) strategic value; (4) relevance in recession.

Size and Sustainability

A major source of concern is that Nigeria’s public domestic debt has experienced rapid growth over the past ten years and that debt service outlay is quite high. The domestic debt-GDP ratio is only about 10%; the total public debt-GDP ratio is 12.25%, and compares favourably with the peer group threshold of 56%. Although the debt service-revenue ratio is high, the problem needs to be unbundled so we can all agree on the appropriate solution path. Indeed, following the rebasing of Nigeria’s GDP in 2010, the DMO observed that the increase in the GDP did not enhance the country’s ability to service its debts. Nigeria’s tax revenue-GDP ratio is still below 6% compared to the average for the country’s peer group, which is 18%. Essentially, therefore, from this perspective, what is being experienced is a revenue problem which impacts the debt service-revenue ratio.

What measures are being taken to address the high domestic debt service-revenue ratio? First, in the short-run and continuing into the medium-term, the government, through the Federal Ministry of Finance and the Federal Inland Revenue Service, is significantly improving tax collection, particularly through capturing hundreds of thousands of existing tax-dodging individuals and companies into the tax net. Progress in this reform will cause the debt service-revenue ratio to trend towards lower levels.
Second, the other weak link in the debt service-revenue relationship is high cost of funds in the domestic debt market. There could be many factors to blame for the high domestic interest rates but a major one is the high rate of inflation. While not neglecting other macroeconomic objectives, monetary authorities or central banks all over the world tend to ensure that policy interest rates are set high enough in an attempt to ensure that there is a positive real interest rate. When inflation is high, the monetary authorities would generally encourage high interest rates. So, the challenge is to understand what causes high rate of inflation, which in turn induces high interest rates.
For Nigeria, while not neglecting the inflationary impacts of money supply and exchange rate shocks on rising price level, there is reason to believe that a major and sustained source of inflationary impulse is structural. Acute deficiencies, in power supply, transportation infrastructure and ICT infrastructure, guarantee high cost of production, which transmit into high cost of goods and services. As the deterioration of the quality of the country’s infrastructure assets accelerates, so does inflation accelerate.
How is government tackling this challenge? First, for the near-term solution, the present administration has speedily introduced well-programmed initiatives to ensure bountiful harvest. This will bring down food prices and significantly dampen the overall inflation momentum; food is a dominant item in the basket of items that determine the average price level. Post harvest preservation, for example, through activation of the grain silos is also being given priority. Beyond optimizing on the existing revivable production capacity, the Federal Ministry of Agriculture and Rural Development, Federal Ministry of Water Resources and the Central Bank of Nigeria are collaborating effectively to stimulate more agro-businesses – cooperatives, clusters, as well as mega-scale investments.
In the medium-to-long-term, inflation will also be further tamed by improvements in power supply and infrastructure. With the ongoing initiatives aimed at addressing challenges in energy supply and other physical infrastructure, cost of production and prices of final products and services will fall; inflation and interest rates will consequently fall.
A direct measure for reducing the high domestic debt service is to refinance maturing domestic debt with cheaper external debt instead of with domestic debt. The Federal Executive Council has approved the Debt Management Strategy (2016−2019), which recommended this solution. This strategy will be implemented with a clear guide against unsustainable foreign exchange exposure.

Effectiveness of Use

Irrespective of the size of the public debt, achieving maximum value-for-money must remain the objective of borrowed funds, as well as of revenues. It is in line with the pursuit of this objective that: the anti-corruption agenda of government is being implemented; the Federal Ministry of Finance established the Efficiency Unit to block leakages, identify and eliminate wastes; the implementation of Treasury Single Account (TSA) and other cash management reforms targeting more optimal resource management are progressing. Zero Base budgeting approach introduced in the 2016 Budget will also contribute to effectiveness.

Strategic Value: Market Sovereignty

Ability to borrow from a domestic debt market also has some strategic value. “Debt Market Sovereignty” should be considered an essential attribute of overall sovereignty. A sovereign nation should have a debt market within its jurisdiction, where it can raise money if needed, without being subjected to the legal system of other sovereigns. Domestic debt reduces the exposure of the country to exchange rate risks and the limitations of size of foreign reserves. The independence lies in the country having the option to exercise the choice to borrow from internal sources, from external sources, or from a mixture of both.
Moreover, sovereign borrowing from the domestic debt market encourages the development of a functional bond market, with the scope to introduce different instruments which will encourage the habit of domestic saving, intermediation and investment. Such a functional domestic bond market will be tapped by the private sector to raise long-term funds for investment in real sector and infrastructure projects. Nigeria has developed a deep and liquid domestic bond market where funds of up to 20 years tenor can be raised.

Relevance in Recession

Historically, countries caught in global, regional or national economic recessions or depressions, invariably, depend on borrowing to spend their economies out of the slump. If the country has not developed a dependable domestic debt market, it would be constrained to borrow from external sources. However, a country with a functional bond market, it can take advantage of the greater flexibility and speed which domestic borrowing offers. And, for a country facing recession such as Nigeria is currently, flexibility and speed are invaluable assets.
• Dr. Nwankwo is the Director-General of the Debt Management Office, Nigeria