“The debt pandemic”: Time to update our thinking.

 Instability: Among the results
of fragile economies

According to the Economist’s broadcast channel, by the end of August 2020, the sovereign debt had hit $258 trillion worldwide. The US borrowed some 3 trillion dollars in the second quarter of this year. Other countries are also on a borrowing binge owing to the public health pandemic CoVID-19, much of it in the second quarter. According to the IMF, emerging markets have so far borrowed some US$125 billion in commercial loans over the same quarter.

This has given rise to fears of global debt distress and defaults. Measures enforced to contain the public health crisis caused by COVID19 led to an economic crisis that gave birth to a “debt Pandemic.”   

 However, there appears to be new thinking about public debt that dispenses with frugality. In fact, some economists disparage frugality as a “Zombie idea” -a bad idea that lacks evidential support but still keeps influencing policy decisions.

The former IMF Chief Economist, Olivier Blanchard, set the ball rolling last year when he argued in  a speech that, “governments can borrow far more than previously believed.” Other Economists, Nobel Prize laureates to boot, agree.

Countries borrow to bridge financing shortfalls due to inadequate taxes. They do this to keep economies on track because the private sector is not a good stabilizer of the economy. In fact, trouble in the private sector has at times forced governments to incur huge debts. For example, the 2008, financial meltdown, forced governments in the developed West to step in to save behemoths in the financial and manufacturing sector, says Australian Economist John Quiggin. This bailout, says the Economist Channel, raised the public debt in the developed West, to 105 percent of GDP in the decade to 2018.

The main driver of growth in sovereign debt is wars. Governments borrow way beyond their GDP to finance wars. The COVID-19 pandemic is something worse than war. Containment measures have triggered an economic crisis of global proportions. This has increased demand for government financial support for the private sector and retrenched workers in addition to public health services. Now the government is “the investor and insurer of the last resort,” argues Professor Robert Reich in an interview with CNBC.  Sergio Rebello of North Western University shares a similar view in an article in the Finance and Development Magazine, published by the IMF.

The IMF itself appears to have dispensed with frugal management of the budgets, choosing to give support to countries in need without looking at their debt ratios- in some instances, interest-free, to poor countries. So far, the IMF has disbursed $250 billion of its US$1 trillion war chest to help its members cope with the effects of COVID-19 in this way.

Close home, public debt in Kenya as at the end of June 2020 stood at $62.8 billion or 67.5 percent of the GDP estimated at $93 billion. There are plans to borrow another US$100 million to bridge the financing gap created by tax shortfalls amid high demand for public funding.

 Large sovereign debts are always (at least in the past) cause for concern as anti-debt warriors fear to bequeath the next generation with debts.  However, frugality could also bequeath under development, social and economic inequality, poverty, and social instability.

The COVID-19 pandemic has derailed everyone, including governments. Its full impact is not yet fully understood. That leaves all groping in the dark. Its ramifications this far suggest that we must update our thinking on public debt because it seems inevitable.  There is a growing consensus among Economists that sovereign debt is not such a bad thing after all. Top Economists dismiss the neo-liberal view that government should “cut their cloth according to their size” blaming it for the economic fragilities we are experiencing.

 COVID-19 exposed the fragility of the global economic and financial system. Part of the causes of the fragility is false hypotheses that influenced economic policymaking in the last fifty years or so. Among these is the small government hypothesis. These untruths stripped economies of resilience, replacing it with efficiency which in turn produced fragility. Post-CoVID-19, these inequalities, and other social injustices will only get worse if governments do not do something. We now hear of the mantra “build back better.” This is the recognition that the current economic system is not sustainable and could pose a greater risk to stability in the future.

That means a paradigm shift: Economies will have to reduce or eliminate income- inequalities and social injustices, and protect the environment. This means bigger, assertive governments that will lead in green investments and counter-balance the private sector influence. Given the massive capital outlay needed, governments will be the lead investor. If taxes cannot finance all these needs-and they cannot- then governments must borrow to invest in enablers.

Some private-sector firms will not survive the pandemic, and that means growing unemployment and deepening poverty. This will force governments to bail them out. A case in point is the grounding of Airlines in the US because business is down 70 percent.  Since June, the airline industry in the US has survived on a $25 billion federal government support.  Now that the funds have run out, the airlines are retrenching more than 40 thousand employees unless congress pumps another $25 billion to see them through December 31.

So governments, in the midst of a health pandemic and its attendant economic crisis, have to not only bailout weak sectors,  but also must invest in infrastructure – building roads, schools, power stations, hospitals, and strengthen the public health infrastructure - to create jobs and also bring back resilience to the economic and financial system. Resilience to future shocks is hinged on stronger and larger governments.