We look at a frightening report on western public debt.
At least Goldilocks knew she was doing wrong. Her peaceful slumber was interrupted when the rightful owners of the porridge, chairs and beds arrived. She ran away to avoid the bears' retribution.
Our smug enjoyment of the not too hot and not too cold global economy of the 90s and 00s has been dashed by the collapsed property bubble. House prices rose to a crazy level on a perfect calm of stability and low interest rates. Public debt is approaching wartime levels in the UK and US.
The future of public debt
In a remarkable and deeply pessimistic report, The future of public debt, the Bank for International Settlements looks at the future of Western government deficits and predicts that an unchanged course will take us over the edge of the known economic world.
Ageing populations, structural deficits and the tipping point of 100% debt-to-GDP will prevent countries from reducing their deficits as planned. "Unless the stance of fiscal policy changes, or age-related spending is cut, by 2020 the primary deficit/GDP ratio will rise to 13% in Ireland; 8–10% in Japan, Spain, the United Kingdom and the United States; and 3–7% in Austria, Germany, Greece, the Netherlands and Portugal."
Looking at total debts they say "In the baseline [current course] scenario, debt/GDP ratios rise rapidly in the next decade, exceeding 300% of GDP in Japan; 200% in the United Kingdom; and 150% in Belgium, France, Ireland, Greece, Italy and the United States."
Even in the best and unbelievably painful case, where age related spending is frozen as a proportion of national output, they see Britain's debt at 150% in 2020 and over 300% by 2040. Only Japan, starting from almost 200%, fares worse.
In the baseline case Britain will be spending over a quarter of national output on interest payments by 2040. We would be bankrupt.
Not my fault gov?
Surely all this has been brought on by the severe credit crisis, forcing governments to pump trillions into their economies to rescue the banks and safeguard demand from an even worse collapse?
The credit crisis was certainly the catalyst but the chart in the report (see below) shows that average Government debt in the industrial economies has doubled since the dreadful 1970s, a period of profligate government (in the UK at least), stagflation and the Oil Shock.
The average national debt was 40% in 1974 and touched 80% in 2005, well before the recent crisis began.
Government gross debt and primary fiscal balance in industrial economies. Reproduced with permission.
Governments have acted just as irresponsibly as homebuyers. They saw 5% long-term interest rates and said "We can afford to borrow more." They ate the just-right porridge for twenty years and didn't notice how fat they had become. Well, now the bears are back.
Real interest rates will revert to the norm and beyond as more countries join Greece in the naughty corner. A vicious cycle starts, where the annual interest cost of 100%+ debts rises rapidly.
What can be done?
Two paths lie ahead. Each government can choose painful measures in an attempt to stay with the current model of low inflation and low interest rates or journey into spiralling debt leading to inflation, devaluation and crisis.
The Bank for International Settlements sees raising the retirement age as the down payment on tackling the debt bomb. Taking a knife to unfunded pension liabilities (largely in the public sector) will "allow authorities to wait until the recovery from the crisis is assured before reducing discretionary spending and improving the short-term fiscal position."
I hope the report is unduly pessimistic but there is an emerging consensus that we in the UK will struggle more than most and our best chance is a government of whatever colour that will, with the election behind it, tell us the truth and set out the treatment.
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