Danger ahead: Scaling-up public investment through borrowing

Developing countries are boosting their public investment in order to shore-up their infrastructural gap. In East Africa, Kenya opened its first rail transport from Mumbasa to Nairobi. Ethiopia had earlier in 2015 launched its light-rail system. Nigeria will in 2018 open its Lagos-Calabar railway line.

In Ghana, capital intensive infrastructural projects have been embarked upon, such as the three-tier Circle interchange, popularly known as “Dubai”. So, what is the propelling factor for such huge capital-intensive infrastructural projects? Obviously economic growth.

The quest to escape the underdevelopment conundrum and provide decent living for its people. A Well-developed public infrastructure act as spring-board for rapid economic growth. Well-connected transport system, availability of reliable energy, well developed port systems, among others are catalyst for growth.

Hence such massive scale-up in public investment is considered a boon. However, there is a common feature of most if not all recent public investment in Africa – Borrowing.

A chunk of infrastructural projects on the continent are funded either by concessional loans or through the issuance of short and long-term debt instruments. The Ethiopian light rail was partly funded by the EXIM bank of China, Kenya’s 470km rail line was completed with a $3.2 billion Chinese concessionary loan.

The expected 871miles railway line in Nigeria will be completed with an $11 billion loan, while Ghana’s three-tier interchange saw the light of day courtesy a jont financing with the government of Brazil. It seems the continent has a mouthwatering appetite for borrowing.

But is borrowing wrong in itself? No. Many modern day advanced countries have borrowed and are borrowing for various development purposes. The United States for that matter has a record high debt through the sale of federal bonds. When borrowed money are invested properly, it generates long term benefit to the country. What is worrying and overwhelming about borrowing is the cost (interest) on such loans.

It becomes particularly dangerous in Africa where borrowed monies are poorly or wrongly invested. Shrouded in secrecy, many African governments even fail to disclose the interest cost on these loans.

The debt interest payments as percentage of GDP tends to be a strain on the low government revenue. It creates inter-generational burden, as poor management of such projects rakes in less revenue to service the debt in due time. Certainly not all of these projects have direct revenue streams, but the means of repaying the loan has never been well-thought through.

A commonly adopted approach in debt servicing by many countries has been issuing debt to service debt. That is borrowing to pay for borrowed money. In effect, this approach only prolongs the debt and could further attract higher rates.

In cases where borrowing becomes incessant, it pushes up domestic interest rate. When the market is nervous about the government’s ability to repay its debt, it translates into higher domestic interest charges.

There is another subtle if not unnoticed effect of borrowing. Hindering of the interest rate channel of monetary policy. Consider an economy where policy rates are being lowered to spur economic activities.

Yet commercial banks are reluctant in lowering their rates. Where governments have strong appetite for borrowing, banks are always concerned about their inability to repay loans hence maintaining higher rates.

It is worth noting that African governments have sometimes borrowed from commercial banks to revive state enterprises. In fact, a great deal of non-performing loans in the Ghanaian banking system are held by state firms.

Cognizant of such risks, banks have been loath to allow the transmission mechanism of monetary policy to be fully realized in Africa. Could this be the situation in Ghana where policy rate has been lowered consecutively yet its effect is not realized in commercial banks.

Similar distasteful economic situation may have prevailed in Kenya where an ineffective transmission of monetary policy through the interest rate channel lead to the unwelcome legislation of capping rates for commercial banks. To the chagrin of the law makers, the legislation has instead slowed down access to credit.

Debt monetization is a term closely linked to developing economies. Central banks of developing countries are sometimes pressured into printing money to service government debt. And this has often triggered high inflation. This happens when contracted loans are not used for its intended purpose or the feckless bureaucracy fails to implement projects.

The effect of debt monetization has been high inflation. A classic example is Zimbabwe. When the government borrowed to unsustainable levels coupled with a gobbling wage bill, it started to print money. The outcome was a hyper-inflation and a breakdown of its own currency system.

In addition to the economic risks associated with borrowing comes the arching risk – borrowing for political expediency.

It is not rare to see African governments borrow to fulfill ill-thought campaign promises. The fear of losing elections have coerced politicians to borrow for projects promised on their campaign platforms. Without any regression analysis, such hasty projects have added no value to a country’s growth.

In the event where the government loses power, the newly formed government is tempted to abandon the project. This is done mostly to fade-out any credit that the previous government may earn. But one thing remains. The loan must be paid with interest.

Why am I concerned about borrowing and its effect? Well, my future and possible yours is at stake. Successive governments in Ghana have all pointed that “we” can’t do without borrowing. The previous administrations, and the current administration have all showed their desire for borrowing.

There seem to be no immediate end in sight to this borrowing “craze” instead new financial engineering terminologies for loans is what we hear. I am not in a haste to judge the intentions of the current administration who glaringly is in the same “borrowing club” with the erstwhile administration. Rather, due diligence must be exercised when entering into loan agreements as the effects of borrowing can plunge us into perpetual underdevelopment.