Till debt do us part

Internal debt is taking away from capital expenditure and from ordinary Nepalis

A lot of the discussion on the new budget has hinged on taxes. But the fact that it allocated more money for debt servicing than for capital expenditure is a much more stark indication of the state of the economy. 

The government earmarked Rs331 billion to pay back domestic and external loans and interests, higher than Rs320 billion set aside for capital expenditure. In essence, this means there will be less money for health, education, or infrastructure. 

In fact, the government plans to borrow Rs240 billion in internal loans, but will be spending over Rs275.79 billion paying off old debt.

With falling tax revenue unable to cover expenses, more than a quarter of the budget is now borrowed from outside and within the country. Public debt as a proportion of GDP before the earthquake was 22%, now it has exceeded 42%. 

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“We are falling into a domestic debt trap, we have reached a point where we are having to borrow more money to pay our debt,” warned former finance minister Yubaraj Khatiwada. “Alternatively, the government’s capacity to spend on development is now weaker.”

According to the Public Debt Management Office, Nepal’s total public debt has exceeded Rs2.15 trillion. Of this, domestic debt is Rs1.08 trillion and the other half is foreign loans. In 2015, domestic debt as a proportion of GDP was 8.1% and foreign debt was 14.2%. By the end of December 2022, this ratio increased to 19.9% and 22.7% respectively. 

Government housing grants post 2015 earthquakes, implementation of financial mechanisms within the federal system including building of new infrastructure, and the Covid-19 pandemic have been blamed for the increase in public debt. Wanton expenditure by successive ruling parties has also played a hand. 

“The expenditure will increase now that the internal bonds taken by the government have matured and the repayment period has started,” says Finance Ministry spokesperson Dhaniram Sharma. During the pandemic, the government had requested donors to postpone loan repayment period by a few years. We have now passed that grace period. 

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On the other hand, the government has started to raise more domestic debt through development bonds since 2018/19. This will lead to an increase in the amount earmarked for interest and capital repayment, further diverting resources from development.  

In the financial year 2022/23, the government allotted Rs.609 billion for development and Rs.188 billion for the payment of interest on loans. This fiscal year, the development budget has shrunk by 23%, while debt repayment increased by a whopping 76%. 

“Because all of this is costing the government more money, it is raising the debt of the market. Now what this does is create a situation where only a few in the private sector can manage to get loans,” says Khatiwada.

Foreign loans from donor countries, agencies and multilateral organisations are concessional in nature, meaning they have an affordable interest rate of less than 1%. Many of these loans have a repayment period of up to 40 years. For example, the government has taken a loan of about Rs16 billion from the Japanese government to build the Nagdhunga tunnel. The interest rate of such a loan taken for 40 years is only 0.01%

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However, internal borrowing is expensive. As soon as the interest rate of loans of banks and financial institutions increases, the government also has to borrow more expensively. According to the Public Debt Management Office, the average interest rate on bonds is 10.30%, up from 5.75% in 2017, primarily due to the lack of investable funds in the financial system.

“Internal debt is an invisible tax imposed on the common man. As the internal debt increases, the government starts looking for ways to generate income to pay it. As a result, taxes are added to goods and services used by citizens,” says former secretary at the Finance Ministry Rameshore Khanal.

But in addition to paying off instalments of the old loans, the Finance Ministry is also under pressure to increase salaries, social security allowances and other expenditure obligations. As such, the government has started imposing higher tax rates to increase its income. Nepal is already one of the countries with the highest tax rates in South Asia. Revenue makes up 22% of Nepal’s GDP. 

More than half of the country’s annual budget is being spent on salaries, administrative expenses, social security, subsidies, etc., so the government relies on debt to raise resources for development. Large budget and distribution-oriented programs in turn have further increased the internal debt. Experts say loans should be taken only for priority areas and for productive sectors that can repay the amount. 

Says economist Pushkar Bajracharya: “Otherwise, taking out loans and spending them indiscriminately will only further burden the future generation of our people.”  

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