Exclusive: Dr Charan Singh bats for “prudent anchor” in sea of global debt

The World Bank’s recently published ‘International Debt Report 2023’ highlighted the “grave danger” posed to low and middle-income countries due to the rapid increase in unstainable debt burdens.

Over the past decade, the pace of debt accumulation in several countries has outstripped economic growth which is expected to moderate even further.

As a result, outsized debt service costs are dwarfing necessary investments in essential areas including health and education; while many countries across the world may well be on the brink of a full-blown debt crisis.

We had the good fortune of speaking with renowned economist Dr. Charan Singh, the CEO and Founder Director, EGROW Foundation, to better understand the conditions that led to the current elevated debt levels; the prevailing situation across advanced economies, emerging markets, and the least developed countries; the implications of such imbalances on economic growth and decision-making; potential safeguards and solutions; and much-needed reforms in the international financial architecture.

Dr. Charan Singh is the CEO and Founder Director, EGROW Foundation. He is also the Non-Executive Chairman of Punjab & Sind Bank. Earlier, he was the RBI Chair Professor of Economics at the prestigious Indian Institute of Management Bangalore, India; Senior Economist at the IMF, Washington DC; and Research Director (Economic Policy, Debt Management) at the RBI. Among other positions, Dr Singh served on the Board of NHB and NABFINS. Dr Singh has published extensively and has two books to his credit.

Dr Singh completed M.Phil in Applied Economics from JNU, Delhi and PhD in Economics from the University of New South Wales, Sydney in 1997. He followed it up with post-doctoral studies at Department of Economics, Harvard University from Aug 2003 to Aug 2004 and SCID, Stanford University from August 2004 to Jan 2006.

The following are lightly edited excerpts from the discussion.

Q) Thank you for your time, Dr Charan Singh. Would you kindly give our readers an overview of the seriousness and complexity of the debt crisis today – in the United States of America, Advanced Economies (AEs), Emerging Markets (EMs), and Least Developed Countries (LDCs)?  

A) This is a very complex story and it doesn’t just start from yesterday or the day before. The story goes back to what happened during the subprime crisis in 2008. The American administration was using the new financial instruments – the derivatives. These were very lethal, not understood by many, and far too complex for the financial world to understand the implications. Then, the subprime crisis and Lehman Brothers happened. 

The liberal monetary policy or the unconventional monetary policy in USA also came to Europe through the European Central Bank and into England through the Bank of England.

Now, the world was not used to this sort of typical, critical economic development and did not understand its implications. So, when the whole financial system collapsed, the global economy became very, very vulnerable.

It is at this point that the size of the balance sheet increased 4 times in about 4 years. That means there were lots of monetary policy implications because the global economy was stuttering, therefore the fiscal authorities had to give huge support. So, on one hand, the money supply increased, and on the other hand, the fiscal policy had to support it.

As a result, the economic balance was completely disturbed. While the world was still trying to recover from the web of liberal monetary policy and accommodative fiscal policy, we were suddenly faced with COVID.

Now, COVID was an emergency and everyone had to swing into action to save human lives. Again, the same thing happened – the monetary policy had to be liberal, and fiscal policy had to be accommodative.

Based on lots of empirical evidence, the Maastricht Treaty decided that 3% of Deficit-to-GDP and 60% of Debt-to-GDP are prudent limits. However, amid the subprime crisis, these limits went for a total toss. The world’s debt-to-GDP ratios increased to more than 100% and deficits also increased tremendously.

The result of all this was that the interest payments on budgets became very large since so much borrowing had been done over such a long time. The interest payments burden became larger than that of expenditure on health and education. This happened especially among EMs and LDCs.

Now, from this itself, you can understand that these economies have been trapped. You have incurred a huge amount of borrowing to take care of vulnerable sections of society, and now you have to service that debt that has been taken. You must either repay or make interest payments – so you are in somewhat of a ‘debt trap’. That is where the complexities are, and in emerging countries and LDCs where the interest burden is more than the expenditure on health and education, welfare-oriented schemes suffer tremendously.

Q) What is the primary channel through which investor portfolios and householders across AEs, EMs, and LDCs may be impacted the most through the debt crisis?

A) The debt crisis has multiple implications. One of the implications is that housing loans suffered extensively. When inflation is very high and government deficits balloon, individual households have to bear the brunt of the mismanagement of fiscal and monetary policy.

Firstly, due to the interest rate policy, my borrowings on many things such as housing, cars, or even where durable consumer goods are concerned – all of them are going to take a hit.

Interest rates are very distorted in the system, and therefore I am not willing to take decisions on long-term investments. Firms, entrepreneurs, and startups also suffer because the interest rate is not what it should be, and is fluctuating all the time.

At the same time, the fiscal policy of governments has also not been very good. They are not sure about the tax concessions, tax rebates, and tax rates – these could rise, fall, or be stagnant. All this uncertainty that has come in has implications for economic decision-making.

Additionally, the stock markets are not reflecting the exact position and therefore they can be misleading. The exchange rate can also be misleading. The expectations channel through which transmission takes place is completely disrupted and blunted.

So, both household decision-making and investments suffer and have entered into a very uncertain phase. Since no one knows when this uncertainty may come to an end, decision-making at the household level and also at the firm level is impacted. This is the situation prevalent across AEs, EMs, and LDCs.

Two phenomena – the Lehman Brothers collapse and COVID had far-reaching consequences in this regard. While Lehman Brothers slowly spread across the world and therefore precipitated a difficult situation in a cyclical manner – first from the USA to Europe and the UK, COVID happened to all of us simultaneously.

What I have shared in my analysis is common to advanced economies, emerging markets, and least-developed economies.

Q) What is your opinion of the recent Fed minutes and the likely trajectory you expect for US monetary policy today?

A) The USA has been conducting both monetary and fiscal policy in a very reckless manner. It is the largest economy in the world – which accounts for over 20% of world GDP. Its decision-making has implications across the world.

Even when the US is not a party to the trade deal, 80% of trade invoicing happens in the American dollar. Given such responsibility on the shoulders of public policy-making in America, the United States really did not behave in a responsible manner.

The subprime crisis emerged from the use of derivative products. These were not very responsible financial instruments, and neither was the policy in reaction to Lehman Brothers, nor the abundant fiscal policy that happened during COVID. All this has led to the global crisis just because of America’s reckless behaviour.

After the Russia-Ukraine war began, the impacts of the prolonged mismanagement of the economy were triggered by their interest rate hikes and there was a volcanic eruption. All that they had done in the past 10 years and was being ignored by the market suddenly came up and the volcanic eruption that took place impacted everyone.

So, America’s policies have been very, very irresponsible in the last 15-20 years. They have impacted the Americans themselves and the rest of the world.

While the USA is a rich economy, and they can afford to overcome these challenges, other countries that are associated with the USA are finding it a real challenge. For example, if markets in the USA and advanced countries are not doing very well, exports of emerging countries and least developed countries do not do very well. So, there is a mirror image that is happening.  

While the rich Americans, Europeans, and Britishers can afford these little hiccups, countries like India and many African countries cannot, since we do not have the reserves and the backup. So, American policymakers have not been acting responsibly and not behaving accountably to the rest of the world.

Now, inflation has moderated to some extent. If they were good enough, they should have started reducing the rates of interest, but they have not. They themselves were ready for a recession. They can afford to overcome the implications of a recession, but if that recession reflects in our countries, the local population will find it very difficult.

Nevertheless, they have now stabilized and are not reducing interest rates. They have staved off the recessionary fears that were there in the earlier phases, so to that extent, they have done good to their economy.

The world has also factored in what has happened in Russia and Ukraine, and therefore the world has moved on at this point. So, although the Fed has indicated in different places that there may be stable repo for some time, my reading is that towards the end of 2024, they may start cutting.

If they start cutting it, then the rest of the world will also have to follow because by imitating and mimicking what the USA did, most countries raised rates and those interest rates should start coming down. The moment rates start coming down, you can imagine there to be a revival in the economy and the engines of growth may start.

Q) As a monetary policymaker, where do you see the most elevated risks today?

A) My feeling is that expectations have to be anchored, and those expectations have been successfully anchored in India and other emerging countries, as well as in the US.

One thing is clear – there is zero tolerance for high inflation. But then the issue is, how do you define high inflation and who should define whether inflation at 2% is right or 4% is right?

There have been many discussions regarding this at the International Monetary Fund (IMF). Olivier Blanchard who was the Chief Economist at the IMF published a paper where he questioned whether 2% is the right inflation target or it should be a little higher.

My feeling is that a central bank should not jump to increase interest rates when there is a transitory increase in inflation. The Russia-Ukraine war was a blip, when inflation had increased tremendously – five times more than the 30-year average (or 10% compared to 2% which is the 30-year average), the Americans had to do something. However, the Fed need not have jumped.

It was obvious where inflation was rising, and was the result of lots of mismanagement of the economy from 2008 onwards. It should have been handled in a far more sophisticated manner than using the sledgehammer of raising interest rates so rapidly.

When interest rates were raised so rapidly, employment, growth, and investment were all impacted. However, when it was obvious that Lehman Brothers was the cause, mortgage-backed securities were the cause, or the Ukraine-Russia war was the cause, things should have been handled in a much more sophisticated and moderate manner.

The lesson to be learned is that whenever a crisis happens – be it Lehman Brothers or one such as COVID where you had to shut down industry, or like the Ukraine-Russian war – prudent monetary and fiscal policy should be much more moderate. But I think the advanced countries were very reactive during the last 15—20 years. They should have been more moderate and considerate and debated the issues far more seriously and granularly than what happened.

I hope the lesson learned is that the interest rate instrument should not be jumped upon as the first instrument to battle inflation. That is where I think the central banks have a lesson to learn.

The second lesson to be learned is that commodities’ prices are more vulnerable to fluctuating widely, and are on their way down, particularly oil prices. So, oil buffers need to be made and alternatives to oil need to be considered seriously. That is exactly how the world is moving towards solar energy, wind energy, and even nuclear energy.

We know that the monopoly of anything is not good. Similarly, I think the monopoly of oil as the source of energy needs to be broken, and therefore alternatives have to be explored. I think the world has started doing this and that effort must be strengthened.

Q) How would you describe ‘prudent monetary and financial policy’ and how do these differ across AE, EMDE, and LDCs?

A) As mentioned, monetary policy needs an anchor – what should be the anchor? Should it be inflation targeting at 2%, I think not. One has to be really clear. In aging countries like Japan, 2% may be too low, and that is why they are suffering. In absolutely vibrant economies like America, maybe this should be around 3%-4%. In an emerging country like India, where people are very young, 2%-4% is too low, and 6% may be more suited.

Therefore, a prudent anchor has to be provided towards monetary policy to anchor expectations.

When it comes to fiscal policy, there has to be an understanding as to what is the right indicator. The Maastricht Treaty had indicated 3% of GDP for the deficit. Is that the right indicator? Should an emerging country like India force down its expenditure on investment or infrastructure the moment it crosses 3%? I think no.

So, the quality of expenditure has to be analysed. Where is the government expenditure taking place? Once the quality of expenditure is decided, then the decision comes as to what should be the Debt-to-GDP ratio.

All this time we were taught in classrooms that if the debt-to-GDP ratio exceeds 60% of GDP, the country will be in crisis. India has been above 60% for a very long time. Now, the rest of the world has also been above 60% for more than a decade.

Therefore, I think the anchors for fiscal policy has also to be redefined from 3% for fiscal deficit-to-GDP, and 60% for debt-to-GDP. Until that is done, it is very difficult to have an appropriate mix of monetary and fiscal policy.

As far as the financial sector is concerned, one has to be very, very careful. The non-performing assets (NPAs) should not be treated as a very scary thing.

In emergencies such as COVID, where the whole world closed down and everyone has to be very careful about when to allow access to their premises, when to do business or not – at such points of time, NPAs, which are one of the indicators whether the bank is in a crisis, should be treated more liberally.

Similarly, when the global economy is in crisis, the capital adequacy ratios should also be considered more flexibly for the time for which it is being discussed.

Both monetary and fiscal policy need a re-look, and in the financial sector we have not yet set those benchmarks, but I think, we need to look at macroeconomic indicators and then decide whether an institution is in a crisis or not. Then we can decide if remedial measures must be taken or if the institution is to be closed.

We must proceed country by country and do a granular analysis while looking at the errors that have happened in the past because of which crises were precipitated. Only such a granular approach can help rather than a sledgehammer approach which is being used in the world economy by financial sector experts today.

Q) Across richer countries, emerging countries, and heavily indebted countries, what are likely to be the most effective safeguards as well as solutions in relation to the global debt crisis?

A) My reading is that two institutions play a very prominent role in the global economy – the World Bank (WB) and the IMF. Both of them have an important role to play now and they are alert to it, but their attention has been diverted to climate finance.

At this point, I think they both need to focus on monetary and fiscal policies. Climate finance is important but it should not override and put these two important things on the backburner.

Now the issue is, what can be done? The IMF and the WB need to organize roundtables of policymakers and look at what should be prioritized and what should not be prioritized.

Since there is a deficiency of resources that are channeled through multilateral institutions like the WB and IMF, the private sector plays a very big role. While the multilateral institutions charge a very nominal rate of interest, the private sector does not charge a nominal rate of interest. They fleece you and have a very high rate of return.

Therefore, reforms for multilateral institutions were also discussed – NK Singh from India and Larry Summers from Harvard put together a very good study for the G20 which talked about both multilateral banks and multilateral debt. It stated that the private sector’s role in lending to LDCs and emerging countries has to be curtailed, and that of the multilateral agencies needs to be increased so that these countries can access the funds and resources that they need at a lower rate of interest. That is what they can afford.

If I have to build a road, then what return can I expect from this? You can say you can install a toll bridge to charge a fee, but how many people will even be able to afford the toll? They will find ways to circumvent it, and therefore these things take time. Returns take 50-75 years to recover the cost.

The multilateral institutions have the mechanisms to lend for 50-75 years and we must be careful to not put the most vulnerable LDCs among the sharks in the private sector who seduce them to take loans, show them teasing rates, and later when the local economy doesn’t allow it – these countries land in a debt trap.

So, the global monitors – the IMF and the WB need to play a very big role in this.

Q) What are the key lessons from the GFC or other debt crises that policymakers can draw on to promote global collaboration on debt management?

A) To my mind, the most important lesson is to prioritize your expenditure and prioritize where the money is spent. Do not get seduced by money lenders who are willing to lend you as much as you want but at teaser rates in the beginning, and exorbitant rates towards the end. Don’t do that. Do not get too used to lending or borrowing from the international markets. While there is an exchange rate risk, there is also the interest rate risk – prioritize the area where you want to grow.

Secondly, in my experience, it is always better to grow organically rather than borrow and grow. So, there has to be a limit to which you can borrow and grow, and that limit should be contextual and country-specific depending on how much fiscal space is available. Live within that space when deciding how much to borrow.

Every economy also has an absorptive capacity. For example, you and me, are used to a certain quantity of food during the day. If we consume five times that food, we are not only going to bloat, it is going to impact our digestive system and it can hurt us.

Similarly, every economy has an absorptive capacity. You can’t overeat and try to grow by overconsumption. That can also be counterproductive. So therefore, set your priorities, set your appetite, and then look at the cost-benefit analysis through the life of the project, how long you need to borrow, and when are the returns expected to start.

The point that I am trying to make is that in the budget, if interest payments become the largest chunk of expenditure, then you have lost the touch of budget making.

In a budget, generally, your expenditure should be prioritized, and interest payments should be the last item, whereas health, education, skilling, and employment generation, should be the first four items.

So, my own reading is that there are countries that get seduced to borrow since this is available at easy rates of interest. Once they have borrowed, the local politicians and the local bureaucracy will not understand that this can come and bite them 20 years from today, or even 15 years on.

Borrowing is never a great idea, as in personal finance so in public finance. If it must be borrowed, it has to be borrowed prudently and should be monitored regularly.

The borrowing should generally be invested in capital formation – building dams, building roads, skilling, providing education to prepare the workforce for a better future, and not used only for salaries and wages, or only for consumption expenditure.

It should be used for capital expenditure where assets are created and assets generate returns.

Q) What is the dollar’s future over the coming years, and is there any threat of it being displaced from its reserve currency position?

A) Not in my lifetime, so not for another 25 years.

The American economy is accounting for 25% of global GDP. China is trying to overtake it and has its own limitations and challenges. We have just seen the housing sector collapse, and I’m not sure if they have been able to contain that collapse. The new year lecture by the chief in China draws upon 2024 being a challenging year and noted that the economy has not done well in 2023 for obvious reasons. Therefore, the global economy is in deep trouble.

I would say that to that extent, the US economy has emerged far more robustly as compared to the Chinese economy.

China’s economy has also had to bear the onslaught of the ramifications of COVID. Therefore, foreign companies operating in China are looking for avenues outside China, and America is going unchallenged.

Other currencies like the Indian rupee and Pound Sterling are far behind.

By the way, how many people, when India is not a trading partner to them, would create an invoice in Indian rupees? Nobody. Whereas 85% of global trade, even where the US is not a party, is invoiced in American dollars.

Other countries have a long way to go before posing a serious challenge to the US. I don’t foresee anything happening to it, in the near future.

The euro is doing very well and could possibly pose some sort of challenge, and is also a currency that is in demand.

A currency is also considered an international reserve currency if the tasks that it accomplishes are very important, such as being available for transaction purposes and storage. These tasks can only be done by a currency that is highly credible, and to establish credibility it takes a long time.

As a result, I don’t see US dollars being replaced in the near future.  

Q) Could you also kindly comment on the rationale for the purchases of physical gold by central banks? Is this connected with the debt crisis?

A) Gold is one commodity that has always been the friend of the central bank. It is an international currency. I don’t have to explain to anyone what this metal in my hand is. I can use that liquid asset in the jungles of Africa and New York City. That’s the beauty of gold.

Any central bank will store gold in large quantities. I would not say that purchases of gold by any central banks are because of the post-COVID era. I would say it has been happening for centuries. Central banks have always maintained reserves of gold in their country, and that is what provides stability to the currency. Therefore, gold will continue to be bought by central banks.

Our central bank in India also buys it, and even in other parts of the world, gold has been on the balance sheets of most of the central banks. It provides stability while all other financial assets can fluctuate. All other currencies fluctuated in their value after COVID, but gold has been one currency that has been stable and provides credibility to the balance sheet of the central bank.

Q) Would you like to share any parting words with our readers on the state of global finance?

A) Yes, there is a need to revisit the international financial architecture.

The IMF and WB should have been providing insurance to countries that needed it most whenever an accident took place. But we saw what happened in Sri Lanka recently. The accident did take place, people were on the streets, but the IMF was finding it a little difficult to give them money when they wanted it the most.

Even though the IMF and WB have been around for 75 years or so, their role has changed over time – and has become far more compelling now, while their coverage has also to widen with the change in the financial sector developments in emerging countries.

Secondly, the international financial architecture should be able to provide help and assistance, guidance, and handholding to countries that need it the most. That means it is not the USA, Great Britain, or European countries that need the IMF and the WB the most. I think particularly countries in Latin America and Africa also need representation in these institutions.

So, my reading is that the international financial architecture needs to be revisited soon, it needs to expand its coverage, and then take into account the issues and challenges that the world is facing now vis-à-vis 1950 when they were created. That is missing now and that fact has informed my responses to some of your earlier questions.

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