Britain's debts are still sky-high. What does it mean for investors?
The news that Britain's public sector debt has exceeded £1 trillion for the first time has certainly attracted the headlines.
And, what's more, that's without counting the impact of the government's so-called financial sector interventions -- the bank bailouts in respect of Royal Bank of Scotland (LSE: RBS), Lloyds (LSE: LLOY), Northern Rock and so on, and the associated quantitative easing. Add those in, and it passed the trillion mark some time ago.
Should we worry? In one sense, no. The nation's debt has been mounting steadily, climbing quarter by quarter. A trillion pounds was inevitable: it was just a question of when.
But on the other hand, public sector debt as a percentage of GDP is disturbingly high. Below 30% back in 2002, it was at 36% as the financial crisis and recession hit in 2008, and has since ballooned to a whopping 64% of GDP today.
Total debt
A recent report from consulting firm McKinsey takes a look at the nation's debt from another perspective.
Simply put, it adds together public sector debt, corporate debt and household debt, and expresses this total as a percentage of GDP for 10 of the world's largest economies. And, in more detail, the report then goes on to analyse the prospects for three of them in particular: America, the UK and Spain.
Why? Simply put, each of these three countries experienced a significant credit bubble before the financial crisis of 2008, and each is pursuing very different strategies to eradicating the resulting debt.
Turning Japanese
Let's start with the headline figures. In the UK, total public- and private-sector debt has risen to 507% of GDP, compared with 487% at the end of 2008, and 310% in 2000, before the bubble.
Put another way, of the 10 countries studied, only Japan is more in hock than the UK, to the tune of 512% of GDP.
In the United States, for instance, total debt stands at 279% of GDP -- roughly at the same level as in Germany, Australia and Canada -- while in Spain, indebtedness stands at 363% of GDP, somewhat ahead of France and Italy.
High and rising
America, which went into the recession laden with debt, has been 'deleveraging' sharply. American consumers have sharply cut back their debt levels, as have American corporations. Not so with public sector debt, of course, as America's ongoing budget stand-off highlights.
Britain, on the other hand, has only just started deleveraging; public sector debt is climbing, household debt is roughly static and only the corporate sector owes less than it did.
In Spain, meanwhile, total debt rose from 337% of GDP in 2008 to 363% today, largely due to rapidly growing government debt. Household debt has barely budged, despite high unemployment, and the country also has unusually high levels of corporate debt.
Put another way, since the start of 2008, American indebtedness has fallen by 16 percentage points, while UK indebtedness has risen by 20 percentage points -- with Spanish indebtedness rising even more, by 26 percentage points.
Compare and contrast
Of the three economies, America has clearly gone the furthest in reducing its debt burden, thanks to private sector cutbacks. The country may be only two years or so away from completing its private sector deleveraging, thinks McKinsey.
On the other hand, the United Kingdom and Spain have made less progress, and could be a decade away from reducing their private sector debt to the pre‑bubble trend.
Overall, says McKinsey, the UK needs to steer a difficult course: reduce government deficits and encourage household debt reduction -- without limiting GDP growth.
Spain, though, has fewer policy options to revive growth than the UK and America. As a member of the eurozone, points out McKinsey, it cannot take on more public debt to stimulate growth, nor can it depreciate its currency to bolster its exports.
Bottom line
As investors, what are we to make of all this? For me, several conclusions stand out.
The first is that with the end of its private sector deleveraging in sight, America looks poised for recovery -- and from the signs, it's already under way. In short, I'm certainly tempted to increase my index tracker exposure to the S&P 500.
The second is that Europe remains off-limits. Of the 10 economies studied, although Spain is worst placed (Ireland and Greece didn't make the cut, of course), only Germany has reasonably low total debt -- and even then, this has stayed static over the period from 2008 to today.
The third is that public sector financing looks increasingly precarious, even in the UK, where the government's austerity measures have been reasonably well received by the markets. The gilt boom, in short, could quickly turn to bust.
And finally, UK interest rate rises look increasingly remote. For most investors, cash is now earning a negative real rate of return, and that looks set to continue. Factor in a moribund property market and a soft gilt market, and the stock market looks increasingly attractive.
Your views? Feel free to share them in the box below.
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> Malcolm owns shares in Lloyds Banking Group.
