As of the end of 2024, Armenia's public debt stands at 12.84 billion USD, of which 6.45 billion USD is external debt, and 6.39 billion USD is domestic debt. Compared to the previous year, the public debt has increased by approximately 997 million USD, or 8.4%.

This year, the government is expected to pay 2.4 billion USD in interest and principal. The amount allocated for interest payments exceeds, for example, the amounts allocated to healthcare, education, or pensions. It is common to assess the manageability of public debt using relative indicators, particularly by examining the government's debt/GDP ratio. According to the "Law on State Debt," the public debt should not exceed 60% of the country's Gross Domestic Product (GDP) as of December 31st of any given year. According to the Ministry of Finance data, in 2024, the government's debt-to-GDP ratio is 48.3%, meaning that from an indicator perspective, the situation can be considered manageable. However, experts are raising concerns about other factors.

How the Public Debt is Formed

The public debt of the Republic of Armenia is the sum of the government debt and the Central Bank's debt. The components of public debt are domestic public debt and external public debt. Public debt is primarily incurred to finance the budget deficit. The government debt is the total of the debt obligations assumed by the Armenian government and outstanding at any given time.

Domestic public debt refers to the total of debt obligations assumed by the Armenian government on the basis of loan or credit agreements with residents of Armenia, as issued by the competent government authority, and outstanding at any given time. External public debt refers to the total of debt obligations assumed by the Republic of Armenia and the Central Bank on behalf of non-residents of Armenia and foreign governments, and outstanding at any given time.

The sources of external public debt include foreign governments, international organizations, loans and credits from multilateral lending institutions, loans and credits from non-residents and their physical and legal persons, government securities issued in foreign currency and government bonds purchased by non-residents, and external public guarantees.

In recent years, the government has adopted a policy of increasing domestic public debt in an attempt to balance domestic and external public debts. The government repays the external debt through exchange rates, which is risky, and this is why the Central Bank issues treasury bonds for the citizens of Armenia, essentially owing them money. Although interest rates on domestic debt are high and unfavorable for the state, the Armenian government considers it a right move, as the debt repayment is done in Armenian dram rather than through exchange rates, which are unpredictable in today's geopolitical environment.

Who are the Creditors

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The largest creditors of Armenia's external debt are the World Bank (IBRD) with 37.5%, the Asian Development Bank with 21.2%, the Eurasian Development Bank with 8.4%, France with 6.7%, Russia with 5.3%, Germany (through KFW) with 4.5%, and the International Monetary Fund with 3.4%.

It is generally considered that external debt is more dangerous than domestic debt because it is tied to exchange rates and is unpredictable. It is also not encouraged to increase public debt from other countries, as economic dependency reflects on a country's political trajectory. Loans from international financial organizations are less risky, as these organizations are not interested in having a country undergo an economic crisis and are prepared to assist if necessary.

The least risky, of course, is domestic debt, where there is no exchange rate risk and it is manageable by the government. However, it should be emphasized that it is an expensive loan, and the high cost of this debt may reflect as inflation.

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Concerns about the Structure of Economic Growth and the Share of Debt Servicing Payments

Vardan Aramyan, the former Minister of Finance, draws attention to relative indicators when discussing public debt. He emphasizes that extraordinary situations can arise within a year that require the Ministry of Finance to respond to them, such as the forest fires in the United States at the beginning of the year. In other words, situations arise that are financially unpredictable, but the state must account for them. This also occurred in Armenia in 2023 when Artsakh was fully occupied, and more than one hundred thousand people from Artsakh sought refuge in Armenia, creating new social expenditures not reflected in the state budget draft.

“If we look at the relative indicators, for the past three years, our debt has been around 50% of GDP, and it is expected to be 53-54% in 2028. 50% is considered good or bad, but there is a guiding level for developing countries, which is 60%. Experience shows that when most developing countries exceed this level, they face difficulties convincing investors, but it’s not that when you approach this level, it becomes a serious problem,” Aramyan explains.

He reminds that developing countries have experienced various episodes of debt crises in the past. For example, Russia had a debt crisis in 1998 while its overall debt-to-GDP ratio was around 39%, and Argentina in 2002 had a debt-to-GDP ratio above 100%, yet both managed their debt effectively.

Therefore, while relative indicators are guiding, they do not reflect the complete picture. The issue needs to be examined more deeply, particularly concerning the structure of economic growth. Aramyan believes that the concern among experts is not whether the debt-to-GDP ratio will exceed 60% or if the tax policy has significant gaps in tax collection. The real concern lies in the fact that the structure of economic growth is not very efficient.

“We have closed 2024 with a 5.9% economic activity indicator, in 2023 the economic growth was 8.3%, and the previous year was 12.6%. At first glance, the numbers look good, but when we look at the structure, it worries us. The growth mainly comes from trade, capital construction, and service industries, which are considered non-exportable sectors in economic theory. Our debt-to-GDP ratio doesn’t seem to be high, but there are risks that there are no preconditions for increasing GDP in the future,” says Aramyan.

He also points out the costs of debt servicing. The general rule is that if the cost of debt servicing is up to 10% of your expenses, there is no major issue, but if it exceeds 10%, it should raise alarms. Aramyan estimates that 2024 seems to be the first year that alarm bells should be sounded, as interest payments exceed the 10% threshold, and in this year, they will approach 12%. Therefore, the rising interest costs as a percentage of total expenses are a second warning sign.

The state cannot refuse its obligations, although it can review certain social expenditures, even pensions, but it cannot avoid paying debt interest. The former executive body representative emphasizes that debt management is directly linked to economic policy, but it is important to remember that the Ministry of Finance handles debt management, while the economic policy is carried out by the entire government. Aramyan believes that the Ministry of Finance has been putting in maximum efforts and has changed the structure of debt in recent years, with the share of external debt being replaced by domestic debt. While domestic debt is more expensive than, for example, dollar-denominated debt, there are no global crises around domestic debt, and the government always has tools to combat a domestic debt crisis. In contrast, external debt carries higher risks, especially when eurobonds are issued, as it cannot be controlled. Therefore, external debt is considered the most dangerous.

"I believe that the Ministry of Finance understands very well that the economic structure is not strong, not based on our own productivity or investments, and there are many risks. Therefore, they have tried to insure the debt market. We pay a little more for domestic debt, but from an insurance perspective, it’s the right move. For me, as a financier, it is more acceptable when the level of domestic debt is higher, and external debt is lower, because of the risks related to exchange rates,” says Aramyan.

He concludes that while the Ministry of Finance is balancing the structure of public debt, it cannot fulfill the role of the Ministry of Economy and change the economic structure, nor can it neutralize the external risks on behalf of the Ministry of Foreign Affairs to attract investments. Aramyan points out a significant gap between officials' statements and actions, which is bad news for investors. In his view, investor behavior is also influenced by moods. Aramyan does not see any issues with financial indicators; according to him, the debt is fully manageable, but the problem lies in the government’s behavior.

“Prudent investors will definitely see risks. They cannot understand what economic model Armenia wants to follow – whether it wants to join the EU or stay in the Eurasian Economic Union. These have different economic consequences... I believe that from a debt management perspective, this rhetoric and behavior are the main issues, because in terms of other indicators, the Ministry of Finance is conducting a sound policy,” concludes Aramyan.

Debt is manageable for the state

Garik Petrosyan, the head of the Macroeconomic Policy Department at the Ministry of Finance, agrees with the idea that economists often focus on relative indicators when discussing public debt, that is, how the debt aligns with the economic situation, especially examining the debt-to-GDP ratio. Petrosyan refers to the recently published debt-to-GDP ratio of 48.3%, which is almost the same level as last year.

"Therefore, we can conclude that there has been no increase in the debt burden in 2024, which is definitely a positive development considering last year's economic and fiscal challenges. Under these conditions, ensuring debt sustainability can be considered a positive achievement," says Petrosyan.

The Ministry of Finance representative reminds that Armenia operates with fiscal rules, which set three thresholds for the debt-to-GDP ratio: 40%, 50%, and 60%. These thresholds indicate potential changes in fiscal rules. The 40% level is considered quite comfortable because at that point, the debt burden is low and manageable. As the ratio approaches 50%, the debt remains at a manageable level, but once it exceeds 50%, measures should be taken to reduce it.

"We can state that as of 2024, our debt is below 50%, at 48.3%, which means the debt is at a manageable level and there are no significant risks," the official explains. According to Petrosyan, the Ministry of Finance has adopted a policy of increasing internal debt, which is in domestic currency. Issuing debt in the national currency significantly reduces the risk associated with debt and makes it less sensitive to exchange rate fluctuations. However, the issue is that domestic debt is more expensive, with higher interest rates, leading to an increasing share of interest payments in the budget's expenditure structure. According to Petrosyan, the growth in debt last year was primarily due to an increase in domestic debt.

Petrosyan agrees with former ministers' observations that the risks related to economic growth and macroeconomic factors should be considered. He adds that the Ministry of Finance usually uses a risk-based scenario approach in its analyses, meaning that when making forecasts about both economic growth and other macroeconomic indicators, it also forecasts the potential debt level based on those projections. He mentions that the Ministry of Finance, which manages the public debt, also considers alternative scenarios, such as what the situation would be like if GDP were lower than expected, if the exchange rate were higher than expected, or if inflation rates were different.

Through the development and analysis of such risk scenarios, the Ministry concludes various possible scenarios for the future debt level. Regarding the issue that this year, 12% of the budget is allocated to pay interest and principal on public debt, the official agrees that paying interest is not a pleasant task, and the larger the interest, the bigger the problem. One of the goals of the debt management policy is to minimize this as much as possible, but global developments also need to be considered, as if interest rates rise worldwide, Armenia cannot remain unaffected.

"Of course, it is concerning that we see interest payments higher than, for example, social expenditures, but we must take into account that the debt was incurred at some point to solve critical issues for the development of the economy, both in terms of investment and infrastructure, which will ultimately lead to improvements in social conditions," says Garik Petrosyan.

According to him, while the state aims to reduce interest payments, not everything depends on the Ministry of Finance; global developments play a significant role. The head of the Macroeconomic Policy Department of the Ministry of Finance reassured that the public debt of Armenia is at a manageable level, and there is no need to change the expenditure policy.

Contributed by Ani Grigoryan, the founder and editor of CivilNetCheck - a fact checking department at CivilNet online TV.