This article complements my previous post (click here) and this time I will show some figures on Colombia’s debt in order to give a better picture of the current Colombian economic situation.
The government’s budget has been unbalanced at least since the 80s, however, when the pandemic broke out the public spending rose to cope with the social challenges under production lockdowns and depending on the source you check, the budget deficit reached 7.80% or 6.98% of GDP in 2020, (click here and click here).
Anyway, as a result of the budget unbalanced year after year, the debt piled up as a percentage of GDP and skyrocketed during the pandemic to 66.1% in 2021.
Figure 1. Domestic and foreign public debt as a percentage of GDP.
The foreign debt has grown faster than the domestic debt, being the public sector the one with a higher share as a borrower from overseas.
Figure 2. Public and private foreign debt as a percentage of GDP.
To have an idea of the figures, before the pandemic outbreak, for some Colombian economists a budget deficit of 5% and a debt of over 50% of GDP was a matter of concern.
After looking at the figures above, a question arises: should Colombian officials take the government budget deficit as the main economic policy target?
To answer that question we should know that Colombia is a developing economy and it is not a surprise that its government borrows financial resources to spend and fulfill its social accountabilities: government is unable to rise money by taxing a relatively small economy, so that draws upon debt.
Moreover, given the boundaries of Colombia’s production apparatus, is not a surprise that such a developing economy asks for capital from abroad in order to invest and grow. In other words, Colombia imports more than exports, and the trade deficit means that the economy is using foreign currency that does not come from exports but debt denominated in dollars (external debt), the currency Colombia cannot issue but needs to import the goods and services unable to supply from domestic industries.
In short, Colombia draws upon debt to grow and develop.
As it is well known in economics, investment is key for long-term growth and the trade deficit comes up when the investment is higher than savings. To understand this point, remember that the trade balance is virtually equal to the current account, which in turn, equals saving less investment (I will write a future post about this equation in detail):
Notice that the current account unbalance can come up due to a rise in investment or a drop in savings with respect to investment. If savings are getting smaller and investment does not rise, the current account deficit is growing because the consumption is getting bigger.
The problem in Colombia is that investment has remained relatively low as a share of the total economy over time, far below 30% as a share of GDP, as was seen in the first post.
The investment to GDP ratio should hold over 30% over time to get fast economic growth rates, or at least this is what shows the Asian rapid-growth economies (click here).
So if the economy does not invest enough, in the long run, the GDP will not grow faster than the debt’s growth or as fast as needed to reduce the debt to GDP ratio. Therefore, by principle, the main problem does not lie in the government budget deficit, but in the lack of investment to boost the economy.
Budget deficit and investment
Someone might argue that the government budget deficit is a burden and, at the end of the day, the public sector draws upon a pool of real resources or, in other words, compete with the private sector for scarce resources, and when steps in the economy a crowding-out effect comes about (click here and here).
Someone also might argue that investors will be concerned about the government’s ability to pay back the debt and inflation might come up due to a lack of confidence in the Colombian peso.
About the first argument: Colombia is a country with an unemployment rate of over 10% and its capacity utilization dropped in the last months recorded and remained around 80% (click here), so theoretically there may be room for some fiscal stimulus to employ resources without crowding-out effects and significant price hikes. In addition, if idle labor and capital are mobilized, the economy can turn out more output and the ratio of debt to GDP might drop (you see, the problem is not debt).
Remember that public spending is a component of aggregate demand and can stimulate the economy bringing a crowding-in effect to the economy. Moreover, public spending is made up of current expenditure and investment, Colombia is a developing country with a backward infrastructure and the government can play an important role as an investor.
With respect to the second argument related to the investor’s confidence, as a developing economy, Colombia does not issue a hard currency and must take care of excessively expansive monetary policies, nevertheless, there is no defined debt/GDP threshold Colombia cannot surpass, especially nowadays that the pandemic has hit countries around the world and debt is piling up everywhere.
Foreign debt has increased like never before since 1995 and it is the indebtedness that Colombia must look after the most because it is denominated in dollars, a currency that cannot be issued by Colombia’s central bank; the only way to pay back such debt is through production (exports).
Although confidence in fiat money is key for keeping its value, devaluation in Colombia comes up as a result of lagging exports compared to imports. That’s why the revaluation and devaluation of the Colombian currency have followed the oil’s and coal’s international prices, its two main exported goods, in the last years. Devaluation rather than technology and productivity is the tool of backward economies to compete in the global market.
Figure 3. Moving average of oil, coal prices, and exchange rate
My point in this article is that the ratio of debt to GDP can be reduced as a consequence of a sound development policy, therefor debt level should be a secondary government target. Seeking a debt reduction through balanced budgets may bring about growth difficulties and unemployment, and thus, further debt will be needed.