Managing public debt in small states

Empirical evidence supports the view that higher the quality of a country’s policies and institutions, the better is its capacity to carry debt and withstand exogenous shocks. Public debt management is particularly important for small states (with less than 2 million). Small states are exposed to broader risks—limited economic opportunities, lack of diversity, disproportionately high infrastructure costs, and vulnerability to natural disasters, which heighten their risks of macroeconomic and debt crises. Yet, most have rudimentary public debt management functions and practices, as observed from the Debt Management Performance Assessments (DeMPAs) results (in 17 of the 35 small states in 2007-12, classified as low and middle income).

The DeMPA tool measures strengths and weaknesses in public debt management; it has 35 debt performance dimensions that cover: governance and strategy development, coordination with fiscal and monetary policy, borrowing polices, cash management, operational risk, and debt recording and reporting. More than half the sample states met the minimum requirements for less than 10 of the 35 dimensions, and none met these for more than 20 dimensions.

A critical deficiency was the lack of capacity to monitor and assess cost-effectiveness of external borrowing terms and conditions. This was worrisome when coupled with the poor mechanisms for debt reporting, and absence of auditing of debt management activities. The assessments also showed that most small states did not formulate a debt management strategy.

Literature does not suggest that debt management practices that work in large states will not apply in small ones, which is also demonstrated in small states by their ability to perform well in some dimensions of debt management. Small states, because of size and other features, may face institutional and manpower constraints, but small size brings some advantages. Small states have debt portfolios with limited number of instruments relatively easy to monitor.

The authors identify several practical steps that small states can take to improve debt management capacity. Most are simple but likely to have rapid payoff. These include benefiting from peer countries experience; tackling easiest problems first (picking low-hanging fruit,); maximizing gains from information technology; realizing benefits from staff training; pooling resources and reducing costs through regional cooperation in preparing debt reports and manuals; and lowering currency risk and developing domestic debt markets.