Asia’s Debt is Sustainable… For Now

Developing countries in Asia have managed their national debt well but further reforms are needed. Photo: Tom Fisk
Developing countries in Asia have managed their national debt well but further reforms are needed. Photo: Tom Fisk

By Benno Ferrarini, Marcelo Giugale

Asian countries should implement reforms now, while their debt is sustainable, in order to head off a debt crisis.

Whether one looks across the entire region in its vast diversity, at groups of countries of similar income or geography, or at individual economies, there is no question that  Asia has been borrowing fast. This is true whether the debtors are governments, corporations, or households.

Every sector has tapped finance with gusto. Debt burdens—that is, debts as a percentage of gross domestic product (GDP)—grew large, and in some cases massive. COVID-19 has made them much worse. Trillions of dollars were spent on controlling the virus, protecting people, and propping up the economy—most of it on credit.

So, it is high time to ask the question: Is Asia’s debt sustainable? A team of 22 experts, convened by ADB’s Economic Research and Regional Cooperation Department, have provided their answers in a new book titled “The Sustainability of Asia’s Debt”.

Bottom line: for a number of reasons, the debt seems sustainable, at least for now. Those reasons span widely. Learning from previous crises, high- and middle-income Asia developed its domestic capital markets for most of its public borrowing. Others undertook or are undertaking painful structural reforms.

Donors, notably bilaterals such as wealthy countries, have been generous with lower-income and island-state countries. And global investors still view the region as a good bet, particularly if interest rates in advanced economies will not grow too high.

But sustainable does not mean riskless. Behind the causes for comfort, there are significant dangers. To start with,  Asia’s fiscal space—that is, its capacity to accommodate additional, unforeseen expenses in a financially sound way—has been spent during the pandemic and is bound to shrink further. If economic growth does not return soon to its rapid long-term path, it is difficult to see how the post-pandemic reconstruction will be funded.

Then there is the question of contingent liabilities. By law or by necessity, Asian central governments are, or are expected to be, responsible for the obligations of other entities, public and private. The values at stake sometimes dwarf governments’ own debt.

What should Asia’s policy makers do about a debt burden that is huge, growing, risky, sustainable today, and unsustainable in the future?

Finally, there is the debt-equivalent to an elephant in the room: aging.  Societies in East Asia are growing old so quickly that, short of major reforms or a technological miracle, their public debts will be multiples of their current levels. The beginning of this surge is only 20 years away. And all this assumes that forecasting the region’s fiscal accounts can be done accurately; it can’t: projections for the evolution of fiscal deficits and public debt in Asia just 1 or 2 years out rarely pan out. The volatility of budgets is too high.

What should Asia’s policymakers do about a debt burden that is huge, growing, risky, sustainable today, and unsustainable in the future? In a nutshell, they should build on their successes, put in motion now the reforms that will defuse a crisis tomorrow, and tap on new instruments.

The region’s public debt managers—and, more generally, financial sector authorities—have much to be proud of. Their efforts to develop domestic capital markets have become a key asset and should be furthered and extended to lagging countries. Those managers have begun to wrestle with contingent liabilities—more than anything by bringing them out in the open. And they have started to create national awareness about the cost and realism of price subsidies and social security promises. On both fronts, the time for action has come.

Looking forward, fiscal risks—natural, operational, financial, commodity, and others—capable of derailing public borrowing plans can be reported more accurately and addressed more thoroughly. In fact, Asian governments could buy insurance against those risks, directly from investors or through multilateral banks.

They should leverage the market for impact finance, in particular for thematic bonds (green, blue, social, gender, etc.). This market has become a major alternative source of funding for countries and companies ready to make commitments on the use of the proceeds. Not all of these instruments currently fit every country, because financial standing and institutional capacities differ. But the menu is ample and flexible.

Several Asian countries in the lower-income spectrum that haven’t switched their marginal source of finance from foreign to domestic currency—as did emerging Asia upon facing crisis in the late 1990s—are captive to volatile foreign markets and indebted to an ever more heterogeneous and challenging mix of commercial and official lenders. Those requiring debt relief in the years to come are facing an uphill struggle in getting creditors to coordinate and agree on a shared burden of relief.

 Asian countries should implement the reforms necessary while their debt is sustainable to head off a debt crisis in the future or to facilitate a resolution should crisis hit. While there are few universal prescriptions for a group of countries this diverse, full transparency about debt and its management, and increased mobilization of domestic resources should be a prerogative to all.