The weak defense of the new government debt

About 10 days ago, it became clear to the general public that the government would issue new external debt worth 8.1 billion euros (16 billion leva) in the form of bonds within the period 2015-2017. This news polarized commentators and the public into two camps: defenders of the debt (mainly “right-wing” analysts and intellectuals) and critics of the debt (respectively, mostly represented by the “left”). However, this debate missed the essence of the question – is the issuance of new external debt justified at all and what are the threats from this action of the government.

As some of the defenders of the new debt point out, part of it will be directed to paying off old debts. According to the Updated Medium-Term Budget Forecast for the period 2015-2017, during this and the next two years, debts will be repaid and their servicing costs will be covered in a total amount of 14 billion leva, with the remainder up to 16 billion leva supposed to go to paying off budget deficits. Many correctly point out that the debt issued by previous governments and the interest on it, which matures in 2015, 2016 and 2017, must be repaid and this is a budgetary obligation from which there is no escape. It is also true that market interest rates at which the state issues debt are low as of mid-February – the interest rate on 10-year debt in euros is 2.25%, and the interest rate on 2-year debt in euros is 0.8%. And it is not mandatory to withdraw the entire amount of debt.

According to those who accept the idea of debt as prudent, by issuing new debt for the next three years, its total level will not increase, but will remain at the same level. Some even suggest that “savings on interest costs can be achieved precisely because of the new issues, which have record low interest rates.” As can be seen from the projections in the Updated Medium-Term Budget Forecast for the period 2015-2017, despite nominally lower interest rates, the opposite will most likely happen. Interest on external debts for the period is expected to increase relative to gross domestic product, and their growth will come precisely from interest on external debts:

Source: The updated medium-term budget forecast for the period 2015-2017.

Why we don't need new debt

But even though most of the new debt in this and the next two years will be spent to cover old obligations, and even if economists' forecasts come true (i.e., interest rates on debts fall), we still have two objections to uncritically ignoring budget deficits and issuing debt as a way to repay old payments.

First, the idea of budget deficits is something that any pro-market person should presumably criticize. A larger government budget means that more money will be taken from individuals and redistributed. So in practice, in the real economy – i.e. the private sector, which is the real producer of wealth – there is less money left, other things being equal. The direction of this distribution is mostly towards the administration itself and towards unproductive (and often populist) projects, [1] such as the rehabilitation of the panel blocks, [2] as well as towards companies and organizations connected to the government. Respectively, defenders of the free market should defend moves to liberalize the market, and not try to argue for debt, which will simply increase the ineffective policies of the government at the expense of taxpayers and will lead to even greater state intervention in the economy.

Second, although the debt that previous governments have accumulated must be repaid when they mature (as well as the debts that will mature in 2016 and 2017), this is again no argument in favor of taking on more debt. First, even if the assumption is made that the new debt will not increase the total amount of debt to GDP – as the government’s data predicts – it is still debt. Although the interest on it is lower than on other old debts, it will again be borne by taxpayers. In other words, in this case too we will have a withdrawal of funds from the productive sector and from individuals, who will be forced to pay loans that they did not take out themselves and which will most likely be spent counterproductively. That is, we are not solving an economic problem here, but rather perpetuating it, to the extent that interest rates on government loans are negative for the economy as a whole. Secondly, taking on new liabilities is not the only way to finance old ones. The correct action for the government in this case – and in any other case when it comes to debts – would be to finance its old liabilities by privatizing state-owned enterprises, organizations (for example, museums and hospitals), services (education, pension savings and health insurance) or by stopping some of its pointless and expensive activities, rather than by continuing to burden taxpayers with debts.

In the debate over the debt, no real pro-market proposals were heard. The idea of the exact opposite is implicitly creeping in – the coalition between GERB and RB will most likely abdicate from implementing proper reforms, which is evident from the budget deficits set for this and the next two years and from assuming debt for a period of 3 years. And this is precisely the position that the “right” experts should defend, instead of commenting on how the new debt will be harmless and even beneficial for the economy: to reduce the role of the state in the economy and reduce government debts on the shoulders of voters.

[1] Friedrich Hayek's arguments about the problems of knowledge, as well as Ludwig von Mises's theory of the problems of economic calculation, can be fully applied here. They lead unambiguously to the conclusion that state administrators fundamentally cannot know what consumers want in the market and their policies will always be economically inefficient. Public choice theory is also valid here, according to which officials themselves also try to maximize benefits for themselves, and not for the supposed "consumers" of their "service".

[2] We have already described the negative effects of this policy. You can read more about it here.

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