Living beyond our means: Large deficits and debt

The old saying “living beyond our means” is an apt summing up of the economic condition of the country. Joan Robinson, the eminent Cambridge economist, once commented that we are a people who want to taste the fruit before we plant the tree and nurture it.

We are a country that “does not cut the suit according to the cloth”. Consequently we incur large fiscal and trade deficits and have an accumulated huge national debt.

Deficits and debt

The economic consequences of this excessive spending have been the persistent fiscal and trade deficits and the massive domestic and foreign debt that the country has accumulated. Successive governments have incurred large fiscal deficits owing to public expenditure being much above government revenue, especially in the run-up to an election, as happened in 2014 and soon after coming to power, as in 2015.

Fiscal deficits

For many years the Government has spent considerably more than the revenue it has earned. In recent years, over 90 percent of the Government’s revenue has been spent on only servicing its debt. And in some years, government revenue has not been sufficient to even meet its debt repayment obligations. The consequence of successive government’s spending more than it has is clearly evident in the persistent fiscal deficits and the huge national debt that has accumulated.

In most years, government revenue is inadequate to meet current expenditure. It has to borrow to meet its current and capital expenditure. Consequently, the national debt (domestic and foreign) was 77 percent of the country’s GDP for 2017. This implies large debt repayment obligations in the future.

Government resources

There is a lack of understanding that government spending is from revenue from taxation and that what the government gives, it extracts from people. When the government resorts to financing its expenditure through the creation of new money, the consequent inflation erodes the incomes of people through higher prices.

Most people believe that the government has inexhaustible resources and that it owes unlimited benefits such as employment in the public services, where there are no jobs, subsidising food and fuel and handouts. The Government tends to pander to these to gain popularity.

Trade deficit

If that be the state of the public finances, our trade balance is no better. Expenditure on imports has been more than export revenue in almost every year since 1950. It is only in about five years that the country’s exports exceeded imports. The last trade surplus of a mere US$ 40 million was achieved 40 years ago in 1977, with stringent import controls and shortages of essential consumer items.

In 2016-17

The trade deficit increased from US$ 8.87 billion in 2016 to a massive US$ 9.62 billion last year. We are likely to incur a huge trade deficit this year, too, despite growth in exports owing to higher imports. The trade deficit this year would be even higher unless imports are curbed. We are frittering away our export earnings on imports. Are these essential imports?

Food imports

Contrary to the general impression that we spend much on food imports, our food import expenditure is less than 10 percent of total import expenditure. Last year’s import expenditure on food amounted to only 8.7 percent of imports, despite larger imports of rice and wheat owing to the severe drought that resulted in a shortfall in food production. In 2016 food imports were only 8.4 percent of total import expenditure.

Intermediate imports

The largest slice of imports is for intermediate imports that consist of raw materials for manufactured goods and fuel imports. Much of this import dependency is inevitable owing to the dependence of manufactures on imported raw materials. We are also heavily dependent on fuel imports for transportation and thermal electricity generation that increased last year owing to the fall in hydrogenation.

The expenditure on fuel imports is dependent on both volumes and import prices. Last year fuel imports increased by 38 percent and cost US$ 3.4 billion owing to both increases in the volume of imports and international prices of oil. We expended nearly 30 percent of export earnings to import fuel.

Vehicles and gold imports

The expenditure on several non-essential imports has been increasing. These include vehicles and gold imports. Last year vehicle imports decreased slightly and yet cost US$ 772 million. Gold imports increased by 74 percent to nearly US$ 650 million. Aren’t these expenditures symptomatic of liv- ing beyond the nation’s means?

Remittances

The country’s economic plight would have been much worse if not for the large amount of remittances from overseas. Last year’s remittances were around 9 percent of GDP. Remittances that amounted to US$ 7.2 billion were about 39.3 percent of import expenditure and offset 75 percent of the trade deficit.

Remittances have been growing in tandem with import expenditure in recent years had a setback last year owing to unrest in Middle Eastern region and decreased by 1.1 percent.

Way forward

It is vitally important that the fiscal deficit is brought down to the targeted 3.5 percent of GDP in 2020. Although the Government was on course to achieve this, the likelihood of realising this is diminishing with likely additional expenditure to gain popularity. Salary increases as well as recruitment to the public are most likely. Subsidies too are expected to be increased.

The only possibility of containing the fiscal deficit in the current political context is by an increase in revenue brought about through the implementation of the new Inland Revenue Act and reduction of tax avoidance and tax evasion. The intent to not grant tax exemptions is crucial to enhancing revenue.

Continuing incurring massive trade deficits is unsustainable. It is the main cause for the country’s weak balance of payments. As earlier columns have pointed out, a trade surplus is vital to strengthen the balance of payments and enhance the reserves as the large debt repayment of US$ 4.2 billion next year would strain the external finances.

The trade deficit is caused by high imports. Therefore fiscal and monetary policies must ensure a curtailment of imports. Reduction of fuel imports that cost US$ 3.4 billion last year is essential to make a dent on imports. Vehicle imports that have increased due to tariff and government policies must be reviewed to reduce import expenditure on these.

Monetary policies should constrain aggregate demand so as to reduce import consumption. The government has not been serious about the need to improve the trade balance. Austerity measures are now crucial so as to not slide into balance of payments difficulties.

The political leadership must set an example of living within the means of the country to inculcate values of the nation living within its means.