A paper presented last week at a conference of the world’s central bankers looked at the levels of debt in different countries and its impact on economic growth. Debt, or to give it its other name, credit, is the lubricant of the economy. Borrowing enables people to spend money they haven’t yet got but could earn if only they could spend the money first. On this basis, we have built railways, fought wars and created the companies that are the mainstay of the global economy. No student gets through college without a debt of some sort. That is good borrowing.
But who is to say that the borrowing is wise? Borrowing not only enables people to spend money they haven’t yet got but could earn, it also enables people to spend money they are never going to earn, running up debts they will never repay. This is bad borrowing.
The profession of banking is supposed to enable its practitioners to distinguish between the two, but that is outside the scope of this website. The point here is that some debt is a good thing but too much debt can be harmful. If too large a proportion of income is devoted to servicing debts, it cannot be used for consumption. Furthermore, an increase in debt levels can lead to an increase in interest rates, thus making worthwhile investments harder to finance and making some no longer affordable. It is worth keeping debt levels under control.
The conference paper suggests that the thresholds between enough and too much are, for public sector debt, in the range of 80 per cent to 100 per cent of a country’s gross domestic product (GDP). For corporate debt, the threshold is closer to 90 per cent of GDP, and for household debt, it is around 85 per cent of GDP.
This is relevant to the EU. The crisis in the eurozone supposedly arises because public sector debt is too high and needs to be reduced. A larger and larger proportion of income goes on interest payments, and the fears that debts might not be repaid sends interest levels higher and higher. Of course, the higher the interest rate, the greater the likelihood of default, which means the interest rate must go higher still.
Countries such as Greece (with a public sector debt of 142 per cent of GDP and an annual deficit of 10.5 per cent), Ireland (96.2 per cent and 32 per cent, respectively) and Portugal (93 per cent and 9.1 per cent) are in trouble because their debt is too high and their deficits are increasing. The threat is so great that the very survival of the eurozone is at stake.
But let us pull the camera back to pan over a wider angle. Taking the 17 members of the eurozone together, the overall GDP is USD 12.2 trillion, the overall public sector debt is USD 10.4 trillion (or 85 per cent), and the overall public deficit is USD 730 billion (or 6 per cent). (The equivalent figures for the EU27 are public sector debt of 80 per cent of GDP and a deficit of 6.3 per cent.) Now, these figures are not great, but they are not disastrous either. Left unattended, this is a bad trend, but is not the point of politics to attend to bad things and make them better?
Going back to our conference paper with its suggestion of a threshold of between 80 and 100 per cent of GDP as the danger level for public sector debt, we can see that Greece, Ireland and Portugal all figure, with debts close to 100 per cent or going over it in the coming year. The same is also true of Italy and Belgium. But for the EU or the eurozone, taken together, this problem does not arise.
There may be a financial crisis in Greece, Ireland or Portugal, but there is not a financial crisis in the EU. The crisis in the EU is a political crisis: the necessary economic strength is at hand to solve the financial crises in the various member states, but it is the political understanding needed to deploy that economic strength that is in short supply. I am not sure if this makes me feel less worried, or more.