If you owe too much money and can’t repay it, you could lose your car or home. Can a nation have too much debt? What happens then?
Currencies from around the world. Getty Images.
During the pandemic, businesses closed, people went into lockdown and governments rushed to spend money — to save jobs and help those who had lost jobs — all in an attempt to avoid an economic recession. But the money had to come from somewhere.
Some countries — Germany, the United States and Switzerland, for example — spent more than others. In general, those with deeper pockets, those who were able to raise money quicker and at lower costs did more than others to help. But other nations were already deep in debt and the costs of the pandemic put them even deeper in the red.
For some, the total amount of their debt reached unseen levels.
Debt is often measured as a percentage of a nation’s Gross Domestic Product (GDP), the value of all the finished goods and services a country produces within a certain time period. It is used to measure a country’s overall economic health. Japan and Greece now have debts that are more than twice their GDP or twice the value of all goods and services produced in a year. Sixteen others also have a public debt higher than the GDP.
With low debt a government has more room to respond to an economic crisis, natural disaster, pandemic or other emergencies.
Most countries with high level of debt experience less economic growth because the money spent to repay its loans cannot be invested into new economic or development projects. It is also money that can’t be spent on social programs. For Japan to repay its national debt in full, for example, every resident would have to work for more than two full years while cutting all expenses.
High debt is often correlated to low economic growth.
In Japan, the numbers seem frightening, but significant amounts of the nation’s debt are owned by agencies of the state or by the Central Bank. In that sense, Japan lends itself money much as you might dip into your savings in an emergency and pledge to yourself that you will pay it back. When that’s the case, there is less pressure for the debt to be repaid by a particular deadline.
In Italy, by contrast, the debt is mostly owed to private interests. As long as private investors continue to buy new public bonds or lend money to the state, the country can keep paying back its previous debts. But when the debt gets high, investors might not trust that a country can pay it back and they will charge higher interest rates on new bonds and loans. So the new debt costs more money.
“What matters the most is how much the debt costs,” says Ugo Panizza, professor of International Economics at the Graduate Institute of International and Development Studies in Geneva. “In Japan, real interest rates are very low. If you pay 0.5% on a level of debt that is 200% GDP, you pay much less than what you pay if interest rates are 10% and you have a debt of 80% of the GDP like Argentina. This is the big difference,”
An Italian economist, Panizza has studied public debt issues extensively. He noted that Japan has very low interest rates. “People trust Japan, and this means that they can sell their debt at lower rates,” Panizza said.
As it happens with individuals, there is not a specific rule to say how much debt is too much. This depends on how the debt is managed and the cost to finance it.
Even when debt is a fraction of GDP repayment can be difficult.
In some cases, countries enter into so much debt, they can’t pay it back. In 2015, well before the current war with Russia, Ukraine defaulted on its debt when it was around 30% of its GDP. Argentina defaulted on its public debt in 2001 when it was 55% of its GDP.
Like a family, the richer a country is, the higher the debt it can afford because more people are ready to lend money at a reasonable rate. But it can matter how the borrowed money is spent.
Just as a father might lend a son money for university more readily than for a party, investors are more likely to buy bonds or lend money on projects that produce future wealth and is spent on investment. This type of debt has more chance to be quickly repaid without negatively impacting the future economic wellbeing of the country.
If the debt is badly spent it is more likely that the repayment will create problems in the future. Ultimately, the accumulation of national debt becomes a burden imposed on future generations.
In the United States, the public debt is 115% of its GDP and U.S. Treasury bonds sell well to domestic and foreign investors. But the U.S. operates under a 1917 law that limits the amount of debt the country can hold and the Congress must agree to lift that ceiling. That agreement has become politically contentious in recent years with politicians threatening to withhold approval to lift the ceiling unless political concessions are made.
Currently at about $31 trillion, the U.S. is expected to hit that debt limit by the second half of 2023. If that happens, the country might not be able to repay its past debts on time.
“In the end, what is important is that people trust that debt will be repaid,” Panizza said.
Long term debts can last a long time.
The origin of Italian debt goes back to the 1980s when public expenditure was the best way to buy political consensus in a deeply divided country. Since the 1990s though, Italy has almost always had primary surpluses — it is spending less than its revenues, before paying the cost of servicing the debt.
In other words, the country has been spending and spending simply to keep servicing the original debt created in the 1980s.
When Italy entered the euro and real interest rates declined, the country had a great opportunity to reduce the debt but failed to do so.
Other countries, such as Belgium and Ireland, were able to tackle the issue of high level of public debt. Like being on a diet, it requires perseverance and determination.
“At some point the debt must be repaid or reduced in GDP terms,” says Panizza. “The best way to do this is to make the economy grow and of course this is easier to be said than done. All the other alternatives, increasing taxes, reducing public spending or generating inflation are very costly and difficult.”
Three questions to consider:
- How much is too much public debt?
- Why are some countries better able to pay back high levels of debt than others?
- Do you think that cutting social programs, like money spent on public education or unemployment assistance, is a good way of reducing national debt?
A correspondent and editor in Europe and the United States for more than two decades, Tiziana Barghini has reported on Popes, mobsters and political crises. She led Reuters coverage of the euro crisis in southern Europe before moving to New York where she tackled the U.S. political economy including Detroit’s bankruptcy and the U.S. public pension system.