Both Government liabilities and assets matter for sovereign risk

SINGAPORE is one of the few remaining sovereigns in the world that still holds a triple-A rating the highest possible level despite a gross Government debt-to-gross-domestic-product ratio that is higher than that of many other developed economies, namely Greece, Italy, the US and France. Yet this high level of gross debt does not constrain Singapore's sovereign credit assessment by global rating agencies.

- BY HANAN AMIN-SALEM, IAN BALL AND DAG DETTER

Other considerations including institutional strength, fiscal performance, monetary policy credibility and effectiveness, and the sustainability of growth - still play significant roles in determining sovereign creditworthiness. However, the main country-specific fiscal factor affecting bond yields appears to be Government net worth (assets minus liabilities) rather than gross debt-to-GDP.

This is the key finding of a study on a set of developed country capital markets. While this conclusion may be 'deeply grounded in economic intuition' as Jemima Peppel-Srebrny puts it, it challenges the assumptions on which most practice in public finance - focusing almost exclusively on debt and deficit metrics is based. This is not to say that debt and deficits are not important, but rather that assets especially liquid or commercial assets - also matter.

Anchoring net worth

An International Monetary Fund working paper asserts that a net worth anchor encourages public investment and economic growth while enabling sensible policy responses to fluctuations in long-term interest rates. It suggests that a net worth target is directly relevant to the reform of fiscal frameworks, such as the euro area's framework, to allow for public investment in a high-debt environment. Furthermore, earlier IMF working papers found that Governments with stronger net worth recover faster from recessions and have lower borrowing costs, providing additional rationale for a focus on net worth.