Fiscal policy in the form of government expenditure and taxation has a direct bearing on budget outcomes that in turn affects the level of government debt or public debt.
Public debt is sustainable when the government is able to meet all of the payment obligations without recourse to exceptional financial assistance or face the prospects of default.
NRI Discussion Paper No.195 entitled “Fiscal Policy for Sustainable Debt in PNG” by Professor Satish Chand and Dr. Osborne Sanida that was released today to provide answers to the specific question on the size of the primary fiscal balance (i.e. revenue minus expenditure, exclusive of interest payments).
That is necessary to contain debt within the ceiling legislated under the Fiscal Responsibility Act (FRA).
A related question addressed is the levels of fiscal deficits that will keep public sector debt sustainable. Specifically, the levels of primary balances that are required to contain debt within the legislated limits in light of possible changes to interest rates and growth of Gross Domestic Product (GDP) was estimated.
This was done using numerical simulations of the path of primary balance for given rates of growth of the economy and the prevailing interest rates.
The country has legislation in the form of the FRA that places a ceiling on debt to prevent the risks of debt-distress. Using data on debt and deficits since 2006, the fiscal path to debt sustainability was calculated, and risks of distress was identified using numerical simulations.
Based on research, it was found that the level of public debt in 2021 at 42 percent of GDP is sustainable at the prevailing interest rates, and anticipated ratesa of growth of GDP and inflation.
However, the risk of distress, amounting to the need to run smaller primary deficits to that of the past at the expense of public expenditure, rise with an increase in interest rates and a fall in the rate of growth of GDP.
Specifically, a rise in interest rates on debt of 100 basis points or 1 percent with GDP growing at 2 percent will require a balanced primary budget for fiscal sustainability – an outcome that may not be politically palatable in such a climate.
The Publication can be accessed on the PNG NRI website https://www.pngnri.org.