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Lebanese Economic Association Debt Sustainability Lebanon’s Medium Term Outlook Mounir Rached 1 I. Government Debt: Developments and Structure 2 Outline I. II. III. IV. V. Debt Structure Debt Sustainability Options to Reduce Debt Debt Sustainability Outlook Concluding Remarks 3 I. Debt Structure 1.Currency Composition Year 2000 2001 2002 2003 2004 2005 2006 Gross Debt 25.2 28.3 30.7 33.4 35.9 38.5 40 LL 17.4 18.1 16.8 17.8 17.5 19.6 USD 7.8 10.3 13.9 15.6 18.4 18.9 16.7 17.1 18.5 19.9 21.8 22.1 GDP 22.4? N.B. Figures are in billion USD • • • • Most of dollar financing is from domestic sources. Shift toward dollar financing, 50% by 2005. $ financing cheaper but immune to deflating. LL financing has higher rate, low default risk, but value risk. 4 2.Gross Debt by source Year 2000 2001 2002 2003 2004 2005 BDL 5 16 8 24 25 25 Public Enterprises 7 7 7 5 4 4.2 Commercial B 64 56 60 44 47 49 Non-bank 23 21 25 28 24 22 (ow ext. off) 5.5 4.9 5.8 12.6 12 11.2 N.B. Figures are in Percentage • • BDL increased its share. Government absorbs 36 % of bank’s claims: • • • • BDL absorbs 44% of banks claims (including RRs). Absorbs liquidity. BDL and Government take up to 80% of bank’s resources Crowding out of private sector is less intense than other cases due to high deposit/GDP. Claims on private sector = 75% of GDP Rising external official financing after Paris II but remains low. 5 3.Gross debt by Maturity Dec 03 Dec 04 June 05 Dec 05 Short-term 35.7 32.2 35.7 27.7 Long-term 64.3 67.8 64.3 72.3 N.B. Figures are in percent of total debt • • • • $16 billion mature in 2007-8 and $9 billion in 2009-10 Short-term debt: 46% of GDP at end 2005 Present value of debt is high. Average maturity is low. 6 Summary: Features of Government Debt • High debt burden to GDP • High domestic bank financing • High BDL financing • Currency composition is about 50:50 • Maturity is short • Present value of debt is also high • Bilateral & multilateral share is low • Rollover risk exposure • Deposit base risk-capital outflow risk 7 II. Debt sustainability Can Lebanon go on with rising debt? Is debt sustainable ? 8 • There is no simple definition of debt sustainability • Practical definition (IMF): Debt is sustainable when the fiscal stance keeps debt-GDP ratio on a stable (or declining) path. • Should we look only at GDP ratio ? • No precise thresholds For low income countries (worse than Lebanon): Some use a stress (threshold) PV of debt ratio of 50%+ But mostly for external debt • Thresholds are country specific 9 Debt Sustainability (Cont’d) • By any definition, Lebanon’s debt based on debt GDP ratio is unsustainable. • There is a convergence of view on this among: • • International Financial Institutions Government & bilateral donors. 10 1.Gross Debt (GD) * Year 2000 2001 2002 2003 2004 2005 2006 GD (%GDP) 151 166 167 168 165 175 190? GDP (B$) 16.7 17.1 18.8 19.9 21.8 22.2 21.1? Gross debt is rising along unsustainable path • • • Paris II provided a temporary halt to debt ratios through concessional debt Interest payments went down to 10% of GDP from 17% Concessional lending by banks helped Since 2004, low growth & higher interest payments are main factor for debt increase * Gross Debt of Central Government 11 2.Gross Market Debt* Year 2000 2001 2002 2003 2004 2005 GMD 132 126 140 119 118 118 2006 (% of GDP) • • • • • Should we consider gross market debt instead of gross debt? Debt held by the market is declining due to rise in BDL debt . Bank’s may view the BDL as a better (lower) risk than government. Risk related to market sentiment is less. It’s another indicator that lowers solvency risk. * Gross Market Debt (GMD): Debt less debt to BDL, public entities and external official creditors. 12 3.Net Government Debt Year 2000 2001 2002 2003 2004 2005 Gross Debt 151 166 166 168 165 175 Net Debt 143 162 156 156 152 158 NMD 127 122 133 98 96 105 N.B. Figures are in % of GDP Net Government Debt (excluding government deposits) is a better indicator of debt burden 13 4.Gross & Net Debt to Disposable Income Year 2000 2001 2002 2003 2004 2005 GD 140 151 156 158 155 165 ND 133 147 146 147 143 150 GMD 124 121 133 112 112 112 NMD 118 111 125 92 90 100 N.B. Figures are in percentage • • • Disposable income: GDP + net income from abroad + grants (transfers). In case of Lebanon, it’s a more appropriate measure? Debt burden is significantly less. 14 5.Present Value of Debt • Maturity is short for debt on average • Discounting debt will further reduce Debt /GDP ratios • Should take ratio of present value of debt for each year to GDP • With average maturity of 4 years at 8% • Present value of debt (PVD) will be: Discount factor is 1.36 PVD= $40 b/1.36= $29.4 billion in 2005 15 6.Debt- to- Revenue Year 2001 2002 2003 2004 2005 D/Rev 911 792 762 722 784 N.B. Numbers are in percent • An Indicator of government debt to government income • The ratio declined until 2004 - Remains high 16 7.Public Debt • Government + Public entities • Need net debt of PEs • Debt of Public enterprises could burden government ability to service debt. • EDL is prime burden. 17 8. External Debt Indicator for External Shocks Year 2002 2003 2004 2005 External debt (B$) 5.6 7.4 7.4 7.6 External market debt (B$) 3.6 3.3 3 3.5 Short term external debt (B$) 1.1 1.7 2.4 1.1 External debt/GDP (%) 30 38 34 35 External market debt/GDP (%) 19 17 14 16 Short term Ext. Debt/ GDP (%) 6 9 11 6 • • • External debt (LL & $) to GDP & to reserves of BDL is low Reserves (excluding gold)/ external debt : 130% at end 2005 Reserves (ex. gold)/external market debt : 230% at 2005 18 9. External Debt in Crisis Countries Country External debt to exports Argentina 500 Brazil 380 Ecuador 300 Turkey 280 Uruguay 500 High external debt contributed to financial crises in these countries in recent years. Had debt/GDP ratios above 70% and high external debt to exports Lebanon has low external debt exposure: External market debt/Exports =190% Short t. external debt to exports = 60% N.B. Figures are in percent 19 10. options to Place Debt on a Sustainable Path Debt Dynamics equation (stochastic): d= ((1+ r)/(1+g))*d(t-1) –ps – priv dd= ((r-g)/(1+g))* d(t-1)–PS –Priv Increase g and ps to reduce debt. d: debt in percent of GDP (income) dd: change in debt ratio r : effective real interest rate (on LL and $) g: real growth rate (private sector & government) ps: primary surplus/deficit (including grants) priv: privatization receipts: net worth of PEs 20 IV. Lebanon’s DS Outlook Debt ratio stabilized in 2002-2004 Supported by : • • • Paris II in 2002 ($ 2.4 billion at 5%, 15 year maturity, grace period of 3-5 years) Bank’s subsidy in 2002 ($3.6 billion at zero interest) Improved primary balance-positive since 2002: • • • • Resumption of escalation of debt ratio in 2005 & 2006 Rise in interest rates a major factor Without exceptional measures and adjustment effort debt is expected to rise Debt needs to be addressed 21 Outlook 2006-2011 (Debt/GDP Ratio) Year 06 07 08 09 10 11 Scenario 1-IMF /a 179 184 188 195 205 213 Scenario 2- (Gov) /b 180 170 161 157 151 145 Scenario 3- (MR) /c 180 168 156 153 147 139 a. Before war & no adjustment as in recovery paper b. After war with adjust. w/o Paris 3 (based on recovery doc.) c. After war with adjustment & Paris 3 grants equivalent to losses stated in recovery doc equal to $4.5 billion & primary surplus of 9% by 2011. Additional privatization receipts will reduce debt further-15% of GDP ? 22 V.Concluding Remarks • Debt is unsustainable at present. • Even if reform is successful, debt ratio will remain high into the medium term. • However Debt could become sustainable with adjustment toward 2011 • Debt reduction should be the guiding principle of fiscal adjustment. • Need 2.6% Primary Surplus to stabilize debt after 2011-attainable with r=6% and g=4% • Privatization receipts (= 15% 0f GDP) play a crucial role as well as Regional and international support 23 Concluding Remarks (Cont’d) • • • External debt is low: reduces risk due to external shocks. Solvency concerns remain with large debt with short maturity Reserves to external debt is high at 1.7 times Rollover risk linked to stability (shocks) of deposit base is not excessive. Non-resident deposits amount to 16% of total deposits and BDL has high reserves. • • • High reserves and potential use of interest rate instrument dilute risk Low market exposure dilutes risk The challenge is to reduce debt and extend maturity 24