Government debt and wealth in the Global South

1 Introduction

On 9 February 1986, a group of 35 computer technicians staged a walkout from COMELEC, the main electoral processing centre of the Philippines, to protest against what they saw as rampant fraud in the tally of the snap elections that had been celebrated two days earlier. The leaders of this walkout were two very brave women called Jules Valderrama and Linda Kapunan. The walkout triggered a severe political crisis within the administration of Ferdinand Marcos, the dictator who, camouflaged behind the trappings of a fraudulent democracy, had ruled the country with an iron fist since 1963.

In the following weeks, groups of senior military leaders started breaking with Marcos and from 22 to 25 February the country was shocked by a series of massive demonstrations that are now known as the People Power Revolution. By the evening of the 25th, the dictator was evacuated by the US Air Force to Guam and then Hawaii where he would live as an exile until finally dying of pneumonia three years later.

Reports on the Marcos evacuation to Hawaii indicate that he arrived with hundreds of crates full of cash, jewellery, gold bullion, and deposit slips for several banks in the United States, Switzerland, and other fiscal paradises. The amount that he managed to steal is debated to this day but estimates range from ‘just’ 100 million to almost 1 billion United States dollars (USD), which may have been as much as 3% of the Philippines’s annual gross domestic product (GDP) at that time. Considering that the fiscal budget of that country has since then been around 20–25% of GDP, Marcos may have stolen the equivalent of a tenth of an annual budget. Just one person, in a country of 56 million (at that time) with close to 50% of its population living in poverty. At the beginning of the Marcos regime, the Philippines’s debt was around 50 USD per capita; when the regime collapsed it was over 500 USD per capita.

History tends to treat the human rights records of authoritarian regimes and dictatorships as their central political and cultural legacy. Horrible atrocities and the ethical, political, cultural, and legal questions that they raise are, naturally, a focus of attention for historians who study these troubled periods. Usually, countries that have gone through an authoritarian regime carry a social and political debt related to human rights abuses for many years that is not simple to recompense. However, a history of human rights abuses is not the only burden that authoritarian governments bequeath to their countries.

Authoritarian regimes and government debt

Another effect of authoritarian governments is often the legacy of excessive government debt. It is, in fact, quite usual for the government that follows an authoritarian regime to find itself constrained by high levels of government debt and a very tight fiscal situation. These limits place important restrictions on the political options of new administrations that are, usually, trying to repair a damaged democracy and heal social wounds.

Michael Kremer and Seema Jayachandran list a couple of the most egregious cases in a suggestively titled paper called ‘Odious Debt: When Dictators Borrow, Who Repays the Loan?’.

In fact, there is a substantial legal, ethical, and political discussion on how to treat the government debt of countries that have been burdened with paralysing levels of debt by irresponsible or corrupt regimes. Robert Howse provides an overview of this debate in a United Nations discussion paper called ‘The Concept of Odious Debt in Public International Law’.

The burden of fixing this problem becomes even more difficult if a significant proportion of these debt levels were incurred for illegitimate reasons. Sometimes the authoritarian regime does not just over-borrow as part of a set of failed economic policies; it may also borrow in excess to finance the mechanisms needed to stay in power. Usually this consists of military, policing, and security spending, but these resources are also used to sustain excessive levels of spending and transfers to political clienteles with the objective of garnishing support for a politically debilitated regime. In other cases, the debt is incurred to finance outright corruption and theft by those in power.

Populist regimes and government debt

But it is not only authoritarian regimes that behave like this. Countries with weak institutions, failed democracies, and dysfunctional political systems may be prone to exploitation by charismatic demagogues and other sorts of irresponsible politicians that can end up behaving in a very similar way.

Sometimes, when voters feel that traditional political parties do not respond to their needs, they resort to charismatic leaders willing to break norms and push back against customs and institutions. This is a phenomenon called ‘populism’ that is very important across political systems today and is behind the crisis of contemporary liberal democracies that some political scientists call ‘democratic recession’.

‘Populism’ is a contentious term. Its most neutral definition is that it is a political style that centres on an alleged conflict between ‘the people’ and ‘the elites’. This conflict is used to justify an aggressive posture towards certain institutions that are supposed to be controlled by those elites. The economist Dani Rodrik makes a distinction between different interpretations of the word:¹ the ‘good’ populists are those that can implement necessary economic and social policies despite the resistance of elites and special interests by overcoming institutional barriers, while the ‘bad’ populists are those that, with the excuse of overcoming those institutional barriers, end up undercutting the rule of law, checks and balances, free speech, and other democratic norms.

Populism reached an all-time high in 2018. Unfortunately, populism is associated with a series of economic consequences, among which are higher levels of debt. Researchers Manuel Funke, Moritz Schularick, and Christoph Trebesch show that countries that go through a period of government that is perceived by the press, media, books, and academic articles as ‘populist’ tend to induce debt levels that are 10% higher than ‘non-populist’ governments.² Populist regimes are correlated with a decline in judiciary independence, transparency, fairness of elections, and freedom of the press. This weakening of institutions allows the charismatic leaders, among other things, to act more freely, thus indebting the country more than otherwise.

The reason why public debt levels are so sensitive to dictators and demagogues is that public debt is both a necessary tool for government policies and a dangerous instrument. A country’s development process can benefit from access to international credit markets, but it can also be stifled by excessive debt levels or unsustainable debt service. These can be a result of bad policies, bad luck, or a combination of both.

This Insight analyses the issue of government debt by:

• discussing why countries borrow and how that borrowing is similar to, but also different from, the credit of individual households (Section 2)
• illustrating the scale of the debt problem among low- and middle-income (LMI) countries, how it has evolved in time, and the differences between countries (Section 3)
• illustrating how government debt has historically been a potentially useful development tool for some countries, but that it entails some significant dangers (Section 4)
• using an intertemporal consumption model to illustrate the basic debt problem faced by an LMI economy (Section 5) and the possibility of debt-financed investment (Section 6)
• discussing the conflicts of interest that surround the formulation of a public debt policy, both within and between generations (Section 7)
• examining the contemporary trend for the creation of sovereign wealth funds (SWFs) in LMI economies and showing how the problems entailed in the establishment of SWFs are symmetric to those within sovereign debt policy (Section 8).