Inflation in times of high debt: A tough balancing act

Traders in Mbale Market wait for customers. PHOTO/FILE

What you need to know:

In the current fragile global economic environment characterised by high commodity prices and high inflationary pressures, it is difficult to achieve high domestic economic growth without allowing for higher inflation. But how will government play with fiscal consolidation and yet achieve reasonable growth? Martin Luther Oketch explains.

Uganda, like many other governments in developing countries, is facing high debt levels and seeking to undertake fiscal consolidation which is often confronted with a number of interrelated questions. What promotes a successful fiscal consolidation? Which components of expenditure or revenue should one adjust, and does the composition of adjustment really matter?
Fiscal consolidation is defined as concrete policies aimed at reducing government deficits and debt accumulation. These consolidation plans and detailed measures are given as a percent of nominal Gross Domestic Product (GDP). All measures are quantified to the extent possible.

The executive of research Bank of Uganda, Dr Adam Mugume told Prosper Magazine that in the current fragile global economic environment characterised by high commodity prices and high inflationary pressures, it is difficult to achieve high domestic economic growth without allowing for higher inflation. 
“The balancing required is to ensure that monetary policy is not tightened very fast and more aggressive than required. Tightening monetary policy amid fiscal consolidation implies possible knock-on effects on economic growth. That is the tradeoff to ensure macroeconomic stability,” he said.
Dr Mugume added: “Uganda’s debt has risen but to an alarming level. Public debt/GDP of about 49 percent is substantially lower when compared to comparable economies.  The relevant question is whether any public debt contracted, even at a lower debt to GDP ratio, will generate higher economic growth in future, to pay back the debt without causing economic growth to decline.”

The national budget for fiscal year 2022/23 was first estimated by the Ministry of Finance at Shs43 trillion then to Shs45.2 trillion. Later in March, this was increased to Shs47.2 trillion as the Ministry said it has identified nine Bills which could support an increase in the total budget.  
The overall fiscal strategy for the national budget 2022/23 is to promote inclusive growth to increase household incomes and improve the quality of life of Ugandans without compromising fiscal and debt sustainability. 

This will entail implementing the Domestic Revenue Mobilisation Strategy (DRMS) to reduce the share of the budget that is financed through borrowing. The focus of the domestic revenue mobilisation in the FY2022/23 will be on enforcing compliance other than introducing new taxes.

A man cleans a fuel chart in Kampala.  Between June 2021 and March 2022, fuel prices in Uganda have gone up by more than Shs1,000. Photo/Edgar R. Batte

Some economists argue that an important driver to start consolidation is a country’s need to consolidate, which is captured by the initial size of budget deficits, and that initial debt levels and increases in debt do not appear to provide incentives to consolidate.

A lecturer at Makerere University’s School of Economics, Dr Fred Muhumuza told Prosper that fiscal consolidation implies reducing government expenditure (reducing multiple spending and rationalisation of institutions), and reducing on loans (government borrowing). 
“For fiscal consolidation to be realised, there is need to align budgetary allocations and spending in critical sectors of the economy, cutting public spending, improving efficiency and effectiveness in public service delivery,” he said. 
Dr Muhumuza said fiscal consolidation deals with identifying the ideas and targeted roll out of development programmes and minimising multiple spending. 

 “Fiscal consolidation speaks to core issues that must be tackled in the national economy, by improving production and increasing productivity in the economy and controlling the debt levels as well,” he explained. 
Hinting on the economic growth, Dr Muhumuza said even before the Covid-19 emerged Uganda, economic growth level was already not strong and makes clarity of where the 6 percent growth rate would come from in the coming financial year. 
Dr Muhumuza explained that Covid-19 affected the economy in form of reduced growth rate, households in form of reduced income, loss of jobs, rise in poverty and triggered low consumption. The economy was fully open just two months ago and some structures have fully recovered. 
“The assumption that fully reopening will result in economic growth of 6 percent is challenging given the current internal and external environment,” he said.         
Most countries in the world, both developed and the developing around the world have rightfully taken a “whatever it takes” approach to combating the Covid-19 pandemic. On the fiscal side, extraordinary and far-reaching tax and spending measures have been implemented to save lives, support individuals and firms, and set the stage for recovery.

The Ministry of Finance has already produced the Medium Term Debt Management Strategy 2022/23 - 2025/26.
The Finance Ministry each Financial Year prepares the Medium Term Debt Management Strategy (MTDS). This is in fulfilment of provisions stipulated in Section 13(10) (a)(iv) of the Public Finance Management Act (2015), that requires the Minister of Finance to table a plan on public debt and any other financial liabilities, whilst presenting the National Budget to Parliament.
Mr Amos Lugoloobi, Minister of State for Finance, (Planning) said the preparation of the MTDS for Financial Year (FY) 2022/23 was highly consultative. 

“Debt will continue to play an important role in financing Uganda’s development agenda, which is why its prudent management is a key component of Uganda’s fiscal policy. The government of Uganda will endeavour to continue coordinating debt management within its macroeconomic and financial policy frameworks,” he wrote. 

Domestic, external debt 
As at end December 2021, total debt stock was $20.7 billion equivalent to $73.5 trillion indicating an increase from $18.0 billion equivalent to $65.6 trillion at the end of December 2020. 
The Ministry of Finance said this represents an increase of 15.4 percent in debt stock, equivalent to $2.8 billion during the year. 

“The rise in debt stock was on account of increased disbursements and borrowing to address the continued shortfall in revenues arising from the negative impact of the Covid-19 pandemic on the economy,” said the Ministry of Finance in the medium term debt management strategy 2022/23 - 2025/26.
It explained that this led to increased domestic debt issuances to finance the fiscal deficit and meet revenue shortfalls. The increased disbursements realised from Afrexim bank, World Bank, Exim Bank of China and government’s effort to invest in the productive sectors, consequently led to a 2.5 percentage increase in the nominal debt to GDP from 47.2 percent as at December 2020 to 49.7 percent in December 2021.

A man hands out money. High inflation is due to exogenous shocks that have been caused in the global economy. Photo/Edgar R. Batte

As at end December 2021, domestic debt stock comprised 19 percent Treasury Bills (91 days, 182 days and 364 days) equivalent to Shs5.3 trillion and 81 percent equivalent to Shs22.5 trillion in Treasury Bonds.
Professor Augustus Nuwagaba of Makerere University told Prosper Magazine on April 22 that Uganda’s economy is facing trilemma (trinity) growth rates amidst increased debt, inflation and exchange rate. Professor Nuwagaba said trilemma entails how to finance the economy. Uganda’s public debt is 53 percent of the GDP due to increased borrowing. “There is a need to contract debt productivity only and not for consumption purposes,” he said. 

He said the inflation is due to exogenous shocks that have been caused in the global economy by eruption of Covid-19 which resulted in disruption of the supply chain.
Professor Nuwagaba said oil is $120 per barrel which is a 200 percent increase in price of oil but the production has not reached the level before Covid-19. In Uganda, the price for diesel is higher than petrol, adding that the disruption in the supply chain is also in the global crude oil (alkaline) for food especially India and China making edible oil, soap prices becoming very expensive because aggregate demand has started rising amidst reduced supply. 

He said there is need to reduce borrowing for expanded fiscal operations because it will save the country from high debt servicing. 
Secondly, there is need to increase production in commodities for exports because it will result in increased inflow of foreign exchange, which will save the shilling from deprecations and save the country from trade deficits.  


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