Author: Kenny | Submitted: May 6 2004 at 05:20:56 PM Primary Auction of Government Debt in Transition Economies A little background. Developing countries have to run government deficits in order to finance all expenditure as they have shitty tax revenues due to being so poor. About a third of this revenue used to come from tariffs but under prevailing orthodoxy WTO membership is a must to be a development success (China? What China?) and so the part of IMF conditionality for loans involves membership, and dismantling of tariffs. Governments used to use captive sources to finance their deficits, i.e. the public utilities/companies would be obliged to buy government bonds at 2% or some sustainable figure. Given that the IMF, WB and our dear government has managed to con developing countries into thinking privatising such industries are a deadweight loss on the economy, debt can either be financed via this method, or by selling to the public (not really an option in poor countries where the peasants don't tend to have a properly diversified portfolio), the corporate sector (who are more interested in plowing profits into investment than into government debt at low interests) or internationally.
A primary debt auction is how the price of debt is determined. Ideally several, but often two or three banks offer to buy government debt at a given interest rate. The idea is that they will compete and force down this rate to the lowest competitive level. The banks get the rate they have priced as right, and governments get cheap finance.
Most developing countries have not be stupid enough to fully liberalise their capital markets, for instance by allowing Western banks to compete in the primary debt auctions, but Eastern Europe, where the furthest extent of Big Bang liberalisation was experimented with, was not allowed to follow this trend, the desperate need of policy makers for finance making them more vulnerable to the intellectual excesses of academy economists.
The problem is that if you have two or three Western banks operate in a primary auction THEY WILL COLLUDE. i.e. they will sit together is some wank City bar the week before the auction and say "if you don't go below X% we won't" and when the auctions take place, they get the highest rate they can afford, bleeding the government coffers completely dry, but not allowing them to collapse. This happened in Georgia a couple of months ago, and the government is now paying 25% on domestic denominated debt (which the financial community sell as adequate and accurate reflection of the exchange rate risk), which by almost any yardstick is an unsustainable debt burden.
It all reminds me of Ray Liotta talking about going into business with the Mob in Goodfella's. When it's sucked completely dry, when there's absolutely nothing left, they torch the place (withdrawing credit lines and precipitating a collapse) and the insurance company (dutifully played in this instance by the IMF) comes in to ensure that Commercial banks aren't put off from future lending. The only difference is that the Insurance company and the Mob are running the racket together in this case. |
