Should Nigeria continue to borrow just because it can?, By Uddin Ifeanyi

…taking a loan in the understanding that one may kick the repayment can down the road is not just irresponsible. It is one major drawback of our economy. Little wonder, then, that the major credit rating agencies continue to rate Nigeria below “investment grade” as an investment destination.

There is nothing intrinsically wrong with borrowing money. This is without prejudice to whether the would-be debtor or mortgagor is an individual, a corporation, or a government. What matters is that through debt, the borrowing party contracts obligations that are not at the point of sealing the negotiations easily met by their salary, equity/revenues, or tax take. In the run-in to appending the final signatures to the debt instrument, two failings are to be avoided. The first is forgetting that one will have to pay back the loans thus contracted. And the second is not first establishing how the loans will be paid. At the retail and corporation levels, lenders tend to hedge against the possibility of default by conducting a detailed assessment of the borrower’s ability to payback, and then demand a collateral pledge as additional insurance.

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Sovereign borrowing is, however, a wee bit more involved. Collaterals won’t work. Just imagine any of Nigeria’s sovereign lenders trying to attach, say the NNPC or any of its assets to the disbursement of a loan to the country. Were Nigeria to default, what would it do with the collateral, and how? Nothing, really. To compensate for this, lenders assess a country’s borrowing capacity by looking at the strength of its economy (its GDP size and GDP per capita, economic growth rate, inflation stability, productivity trends, etc.), how solid its treasury is (its revenue versus spending mix, whether it runs fiscal deficits or surpluses, what the size is of its public debt, what its debt-to-GDP ratio is, etc.), and how healthy its external position is (the size of its foreign exchange reserves, the position of its current account balance, the size of its export earnings, its dependence on foreign borrowing, etc.).

Other measures of an economy’s financial health, and hence its ability to payback any borrowing, include whether it enjoys monetary and financial stability (does it have an independent central bank, is inflation under control, is its currency stable, is its banking sector healthy, how deep is its financial market, etc.). The quality of a country’s political and institutional arrangements (how entrenched is the rule of law, how effective is its government, are corruption levels elevated, are policies predictable, what are the quality of its public institutions, can it easily implement reforms, etc.) also matter. Then there is the matter of the structure of its debt and the repayment risks associated with this (are the country’s debt domestic or foreign currency-denominated, what is their profile, are there refinancing risks, what is the extent of its reliance on short-term borrowing, does it have a history of defaults or restructurings, etc.). Finally, are there contingent liabilities which the lender ought to be aware of (does the sovereign borrower have hidden or indirect obligations that may later become government debt)?

It makes sense therefore to demand that sovereign loans must be for public investments that boost the economy’s trend growth rate. And that as a share of domestic output, they should not be large enough to constitute a millstone. In other words, a sovereign should not borrow to pay salaries to employees in state-owned businesses whose best contribution to the economy’s growth was in the past or buy sports utility vehicles…

Ideally, a country should only take a loan if the net effect on its economy is to improve its standing on as many of these measures as possible. That, at the end of the day, is the whole point of a government committing to economic reforms. It makes sense therefore to demand that sovereign loans must be for public investments that boost the economy’s trend growth rate. And that as a share of domestic output, they should not be large enough to constitute a millstone. In other words, a sovereign should not borrow to pay salaries to employees in state-owned businesses whose best contribution to the economy’s growth was in the past or buy sports utility vehicles to lengthen the official convoys of elected public officials – any more than an individual should borrow to raise household consumption.

Unfortunately, the Nigerian state, intoxicated by crude oil exports and persuaded that global risk events will at some point push oil prices high enough in the future to make the debt burden lighter, is in the habit of borrowing to draw attention to increases, especially nominal, in its GDP size. There are a conceptual error and practical challenge involved in this practice. No banker would avail a loan application on the back of a retail client’s net worth, or a corporate client’s balance sheet. Neither is of much use, in the absence of a steady income or revenue stream, for servicing loans. Absent a country’s earnings, and the GDP numbers simply offer a “nice-to-know-of” effect. Nearly always, though, our governments negotiate these loans because they do not intend to be in office when the debtors come calling.

However, taking a loan in the understanding that one may kick the repayment can down the road is not just irresponsible. It is one major drawback of our economy. Little wonder, then, that the major credit rating agencies continue to rate Nigeria below “investment grade” as an investment destination.