E Major Governments Have Lost Fiscal Flexibility Because Of High Levels Of Indebtedness

The government debt-to-GDP ratio is the amount of a country's total gross government debt (i.e. all governments within the jurisdiction) as a percentage of its GDP.

It is an indicator of an economy's health and a key measure by which the financial markets assess the sustainability of government finance. Changes in government debt over time reflects the cumulative impact of previous deficits, and of course, the interest costs of servicing the debt.  

Our experience suggests that governments with relatively high levels of debt have a reduced ability to respond to future emergencies, such as financial crises or economic downturns. There is also considerable evidence which suggests that the private sector is spooked by high levels of government indebtedness.

Experience also suggests, assuming all other things held constant, that the positive impact of a fiscal stimulus varies depending upon the ratio of government debt to GDP. In other words, the stronger the fiscal expansionary effects on the economy, the lower the debt to GDP ratio.

A glance at the debt-to GDP ratios among the advanced economies indicates that in virtually all cases government indebtedness is currently considerably higher than it was in the period preceding the great financial meltdown.

This suggests that should a major downturn occur again, governments will have less flexibility in maintaining deficit financing in the future, particularly if interest rates are much higher than they are at this time.

Japan is a major outlier on the debt financing front, with debt amounting to 238% of its GDP.

Among the three other advanced economies, the US had the highest indebtedness at 106% of GDP last year, while the Euro Area, the UK and Canada were all relatively close together, with ratios ranging from 84% for the Euro area to 87% for the UK and Canada.

 

Disclosure: None.

How did you like this article? Let us know so we can better customize your reading experience. Users' ratings are only visible to themselves.

Comments

Leave a comment to automatically be entered into our contest to win a free Echo Show.