Why we must not treat Government debt lightly

IO – Debt taken on by the Government of Indonesia during the 3+ years of Jokowi’s rule has soared some Rp 1,200 trillion, far ahead of the unfortunately stagnant tax growth rate, which customarily serves as a measurement for the ability to repay loans. Government mouthpieces continue to reason that State debts, currently totaling Rp 4,000 trillion or about 29.5% of GDP, are still far within the provisions of the State Finance Law that stipulates a maximum debt rate of 60% GDP; they also point out that it is far below the debt ratio of other countries. Japan’s debts are frequently cited by comparison, as its debt-to-GDP ratio is far above 200%. Bear in mind however that Japanese Government debt has the following special characteristics:

1. The debt is to its own citizens and the Japanese Central Bank, at a ratio of about 50% each;
2. The debt is in its own local currency, i.e. the Japanese Yen;
3. The interest rate on the debt is extremely low, only a bit above 1% (compare this with interest rates on Indonesia’s debt, which is the highest in Asia and even soars into 2 digits);
4. Japan’s credit rating is A+ or ‘Extremely Secure’, while Indonesia’s current credit rating is BBB (just ‘Secure’);
5. Despite its high level of debt, Japan has real economic assets in the form of a net international investment position currently marking USD 2.8 trillion, which means that it has positive net external assets or is indeed a creditor country. Indonesia, on the other hand, is holding a negative net international investment position at -USD 400 billion, signifying it has extreme net external liabilities as a debtor nation.

The Government fails to compare Japan’s tax ratio at 31% of GDP to Indonesia’s tax-to-GDP ratio at <11%, or practically the lowest in the world. Furthermore, the Government has also failed to compare the State Budget to GDP ratio in Indonesia, which is much lower than the same ratio in countries that are frequently held up as comparable. Similarly, Indonesia’s debt service ratio, at 40%, is by far the highest in Southeast Asia, far over the maximum safe limit at 25%.  Exacerbating the danger, some 41% of the nation’s debt is in foreign currencies. With an average time to maturity of nine months, 40% of this debt is maturing within the next five years, which will put a great strain to the State’s Budget over that half-decade.

Another concern is that with the swelling of Government debt, potentially a victim of a weakening Rupiah exchange rate, more money from tax revenues will have to be funneled into paying down debt in foreign currencies. Related to this concern are the nation’s own limited foreign currency reserves that can be drawn upon to repay foreign-currency debt, in view of the following five reasons:

1. The trade balance has tended towards deficit within the past 3 (three) months, i.e. December 2017 to February 2018, with a total deficit of USD 1.1 billion, or a monthly average deficit of USD 364 million.
2. Any increase in foreign currency reserves derives from foreign loans and ‘hot money’ (funds which may be withdrawn abroad at any time).
3. The rate of taxation is low and tends to spiral downward, signaling the future helplessness of the Government to meet its debt obligations.
4. The contribution of the industry sector, which is historically the largest tax revenue contributor at 31%, has shrunk, following a de-industrialization trend, from 28% of GDP (1997) to 20% (2017).
5. Higher subsidies for perks such as electricity and fuel in 2018 will place an extra strain on the State Budget, but cannot be revoked, as President Jokowi wants to maintain the public’s support through the 2019 general elections.

Sooner or later, the intelligence of the markets will come to realize that the Government of Indonesia is speeding towards difficult times, ones that signify an inability to meet its obligations and repay debts: this is how the crisis will begin.