In Greek mythology, Sisyphus was punished by the gods for his deceitfulness by being condemned to ceaselessly rolling a very large rock to the top of a mountain, only to watch it fall back under its own weight, and thus repeat this action forever. It symbolises, in some aspects, a futile exercise or one that appears to offer no discernible satisfactory resolution.

The process of eliminating deficits and debts to many countries has become a Sisyphean task, one which appears to have no solution. Japan is one modern day example that has eerie parallels with Bermuda. Bermuda’s task of tackling its debt may be harder than we wish to admit. In fact, the math would suggest it may be becoming a Sisyphean task.

Is Japan’s story the Bermuda story?

In many ways, one could draw a comparison of Bermuda with that of Japan. First, the demographic background is somewhat familiar. Japan and Bermuda both have ageing and shrinking populations. They also both have suffered from stagnant growth over a longer period of time.

In Japan’s case, according to the Bank Credit Analyst and the IMF, they tried to rein in the budget deficit on six separate occasions between 1996 and 2007, only to see growth stagnate as a consequence.

In 1997, for example, they raised consumption tax from 3 per cent to 5 per cent just as the economy was weakening with the Asian crisis and the result was the deepest recession since 1980. Japan has obviously been in the Sisyphean loop.

Fiscal stimulus just caused debts to rise while attempts to rein in spending simply caused economic hardship which in turn increased welfare payments and lowered tax receipts. As a result, its government debt to GDP just continued to trend upward.

The obvious question is whether Bermuda now finds itself in the same predicament and fiscal trap. Although we will not know for some time for sure, the math is worrisome.

The trajectory and sustainability of debt is essentially a function of three things: the existing size of debt, the weighted average interest rate the government pays on this debt and the growth rate of the economy. The formula is as follows:

Primary Budget Balance / GDP = Government Debt / GDP x (Interest Rate — GDP Growth Rate)

The primary budget balance is defined as revenues less non-interest or debt service spending. Essentially, it is what the overall budget balance would be if government did not have any debt to pay.

This formula above suggests that growth in GDP is a very important factor in calculating debt sustainability. Slow and/or negative debt can exacerbate debt stability in three ways.

First, of course, low rates of growth make it very difficult if not impossible to outgrow certain debt burdens. As a result, a nation such as Bermuda which has a slower growing economy will need to maintain a higher primary budget balance (with the size increasing as the debt-to-GDP ratio rises) just to prevent debt from escalating.

Second, lower growth may exasperate deflationary pressures which cause “real rates” to rise, thus making adjustments more difficult. That is to say that higher growth often comes with higher inflation which helps repay nominal debt balances. Inflation, for example, helps to inflate government revenues that are charged on nominal revenue.

Finally, low growth may increase default risks that leads to even higher interest rates on borrowing. This is the scariest outcome as it becomes somewhat self-fulfilling. If government costs aren’t cut, increases in interest rates due to default risk fears lead to even higher government debt burdens. This in turn makes investors more nervous about the nation’s debt, causing rates to rise even more, and so on.

For example, rising yields may actually cause investors to want to hold even less debt due to the increased perceived risk of default. Greece is one such example.

Furthermore, Greece’s situation exemplifies a case where the central bank is unlikely to monetise the debt or, as in Bermuda’s case, the nation has no central bank. We do, arguably, have a buyer of last resort — Bermuda’s three public pension plans which hold approximately $2 billion in assets (source: SAGE Commission Final Report). If the international markets did step away, Bermuda could use its pension assets to fund deficits. The risk, of course, is the game becomes more circular and even greater risk is placed on the Island if deficits rise as risk is being transferred to the off balance sheet liability which is already underfunded and in turn personal pensions could be put at risk.

Many readers will find the above formula familiar. In 2012, some three years ago, we began talking about Bermuda’s growing debt problem and about five years ago the “new normal”.

One may recall that from the analysis in “Let’s Talk Debt” we found that a primary budget deficit of 0.66 per cent would be necessary to arrest the debt to GDP ratio from rising. If we revisit the calculation we can assess the current calculation based on the most recent years’ actual budget results, the current debt level and estimated longer term growth rate.

First the government debt as a percentage of GDP from the latest budget will stand at 36.33 per cent by the end of March 2015 (assuming nominal GDP equal to 2013’s $5.57 billion). The weighted borrowing cost of Bermuda’s debt as of December 2014 from the Ministry of Finance is 5.12 per cent. As for Bermuda’s longer term growth rate we had originally estimated real potential GDP growth to be zero per cent.

Updated analysis on productivity and “Bermuda’s Population Projections: 2010-2020” suggest nothing to change this. Adding a 2 per cent inflation rate gives you nominal growth of 2 per cent longer-term. With these inputs we can calculate the necessary primary budget surplus as a percentage of GDP that is necessary to stabilise Bermuda’s debt situation:

38.33% x (5.12% — 2.00%) = 1.20%

A 1.2 per cent primary budget surplus of GDP is equivalent to $66.885 million. The current primary budget deficit based on the revised estimated 2014/15 budget amounts to $138.743 million. Thus in order to run the necessary $67 million surplus to halt the escalation of debt, the government would immediately have to cut expenditures, increase revenues or a combination of both in order to raise $206 million. This figure is about 3.7% of GDP and not an easy task.

The 2015/16’s budget narrows the primary deficit to $50.18 million but this is still off the market for stabilising debt. Even 2017/18 estimates do not seem to be enough with the primary budget surplus of only $57.256 million (likely a greater shortfall as debt is estimated to rise $403.157 million over this period or about 7 per cent of current GDP).

This trend is worrisome as it starkly shows how difficult it has become to rein in the growth of debt in Bermuda and how any economic stumble in the future could only exasperate the difficulty.

At this stage, the successful outcome to the budget changes hinges on the success of the estimated stimulus from foreign direct investment. If the positive effects of this surge in investment do not materialise in sufficient force to offset the gravity from the tax hikes and spending cuts, the rock will roll back down the hill.