Juan Carlos Echeverry
Everyone around the globe is probably doing computations on national public debt sustainability. We are no exception. Figure 1 shows the sharp increase occurred since 2012, and especially in 2020. The crucial issues, from our point of view are: i) how much debt can be supported by Colombia’s macroeconomy and fiscal stance, and ii) how credible is the path of reduction in the upcoming years towards such sustainable level.
In order to assess the current situation and to answer those two questions, we performed a public debt-interest rate sensitivity analysis. Let us provide first some background information. The composition between domestic and external public debt has stabilized around 2/3 and 1/3, respectively, and it is shown in Figure 2. Table 1 and Figure 3 show the sharp decline in international, but especially in domestic implicit interest rates on public debt. Most importantly, it shows that the 2008-2009 and 2015-2017 crises didn’t visibly affected such declining trend. Those two crises represented short-lived blips in a quarter-of-a-century declining trend.
Hence, Colombia’s macroeconomic stability and the ample liquidity characterizing international markets produced a virtuous result of much lower costs of financing for the government and the private sector. Whereas in the 1990s it was normal to pay more than 25% for domestic bonds and nearly 10% for foreign ones, currently the implicit rates stand at 5.6% and 4.7%, respectively. This is a crucial phenomenon when assessing how much debt is macroeconomically and fiscally acceptable for Colombia. As Figure 4 shows, this is not a Colombian but a world phenomenon.
Figure 1. Gross and Net national government debt and credit ratings (end of year), and MTFF 2020 debt projections, 2008-2026
* Colors indicate upgrades (green), affirmations (black) or downgrades (red) in ratings or outlooks.
Source: Ministry of Finance, MTFF 2020, EConcept.
Figure 2. Public debt composition by internal and external, 1990-2019
Source: Central Bank 1990-2000. Finance Ministry 2001-2019, EConcept.
Figure 3. Implicit interest rates for total, external and domestic debt (%)
Source: Ministry of Finance, Central Bank, EConcept.
Table 1: Implicit interest rates for total, external and domestic debt (Billion COP)
Source: Ministry of Finance, Central Bank, EConcept. Note1: Debt stocks differ on data from Central Bank and Ministry of Finance. Ministry of Finance data are used since 2001, for previous terms the Central Bank is the only accurate source of data which may cause data leaps between 2000 and 2001. Interest payments from Ministry of Finance.
Note2: Stock and interest payments on total debt only include interest payments on external and domestic debt and does not include payments linked to the indexation of treasury bonds.
Figure 4. Implicit interest rates for total general government gross debt (%)
Advanced economies and emerging markets
Source: IMF, EConcept.
Figure 5 shows the corresponding burden of national government interest payments as percentage of GDP. Foreign interest payments peaked in 2003 and domestic ones peaked in 2007 (as % of GDP). Since then, foreign interest payments fell to half of the peak level, and domestic ones fell one fell from 2.6% to 1.8% of GDP. The total burden declined in a full percentage point of GDP. A remarkable trend of this graph is the decline of total debt between 3.5% of GDP in 2007 to 2% in 2013.
Figure 5. Interest payments on total, external and domestic debt as % of GDP
Source: Ministry of Finance, DANE, EConcept.
This is illuminating. Our beliefs formed during the last 20 years, after the end-of-the-century crisis, were that total national public debt in Colombia should be at most 40% of GDP, due to the high cost of interest payments. This is still true, but the upper bound of that relationship is contingent on interest rates.
In particular, Table 2 shows the interest payments burden (as % of GDP) of nine combinations of total national public debt and interest rates (keeping the composition of external and internal debt constant). The conclusion we draw is that 50% or 60% of debt/GDP ratio have basically the same fiscal and macroeconomic burden that 40% if interest rates are one percentage point lower.
Table 2: Sensibility analysis for public gross debt interest (% GDP)
Different interest rates for external and domestic gross debt, base scenario with current average rates (2021)
Indeed, there are diagonals, like the one shown be the red arrow, of mostly equivalent interest payments, with combinations of the vertical and horizontal axes. There is a type of elasticity of the debt burden to the interest rate, that stabilizes the interest payments burden. Analytically, this is a crucial argument for assessing how much is too much debt. Our beliefs that 50% or 60% of GDP was too much debt for Colombia need to be revisited. Currently, Colombia’s 60% of GDP national public debt is as sustainable as 40%, when interest rates were around 7% domestic and 9% foreign, ten years ago.
When assessing national government debt sustainability, the rating agencies and lenders should be aware of this relationship. The root cause lies certainly outside the realm of Colombian macroeconomics, in the humongous liquidity flooding international markets. Colombian debt returns or emerging markets debt returns are extremely attractive vis-à-vis those of more secure assets, up to the point that markets reward them irrespective of what in the past would have been deemed excessive debt/GDP. Hence, they are not excessive anymore.
How long could this situation prevail? We don’t know. However, in the new monetary and QE accommodation paradigm, in which assets in advanced economies are not allowed to collapse, and any amount of liquidity is to be provided to support valuations, and avoid runs, emerging economies seem to rest comfortably under the umbrella of low cost of debt for a foreseeable future.
Good for us. The world in which people had to sweat blood and oil under the sun to service debt has seemingly been replaced by a status quo in which substantially more debt is admissible. In sum, where should the national public debt/GDP ratio depicted in Figure 14 converge to for fiscal sustainability? Under the current interest rates, towards 50%. This level has to be achieved by a new fiscal rule, that warrants fiscal consolidation.
Should interest rates maintain its declining trend, on average falling approximately one percentage point every four to six years, 60% of GDP could easily be a sustainable level around 2025. That would be a beautiful world in which what used to be populist profligacy, has become just sound financing for emerging economies development.