Investors do not demand high-interest rates if they believe they will be paid back. The cost of government debt is reduced as a result. Investors want a higher interest rate if the government appears to be about to default on its debt.
How does a country pay its debt?
To raise funds, governments frequently issue debt in the form of bonds rather than raising taxes. Tax increases by themselves are rarely sufficient to stimulate the economy and pay off debt. There have been times in history when spending cuts and tax increases were combined to help reduce the deficit.
What happens if a country doesn’t pay its debt?
The federal government of the United States is rated AAA by the majority of credit rating agencies, the highest possible rating. If the debt is not paid, the country’s credit rating will be automatically downgraded, raising interest rates for all Americans. As private lenders are obliged to raise their interest rates, small business loans will become more expensive. Even SBA-guaranteed loans, which are generally less expensive and easier to obtain but still reflect market conditions, will grow more expensive.
How can a country reduce its debt?
The country could raise taxes and/or cut spending to lower its debt. These are two of the weapons of contractionary fiscal policy, and one of them has the potential to limit economic growth.
What country is in the most debt?
What countries have the world’s largest debt? The top 10 countries with the largest national debt are listed below:
With a population of 127,185,332, Japan holds the world’s biggest national debt, accounting for 234.18 percent of GDP, followed by Greece (181.78 percent). The national debt of Japan is presently $1,028 trillion ($9.087 trillion USD). After Japan’s stock market plummeted, the government bailed out banks and insurance businesses by providing low-interest loans. After a period of time, banking institutions had to be consolidated and nationalized, and other fiscal stimulus measures were implemented to help the faltering economy get back on track. Unfortunately, these initiatives resulted in a massive increase in Japan’s debt.
The national debt of China now stands at 54.44 percent of GDP, up from 41.54 percent in 2014. China’s national debt currently stands at more than 38 trillion yuan ($5 trillion USD). According to a 2015 assessment by the International Monetary Fund, China’s debt is comparatively modest, and many economists have rejected concerns about the debt’s size, both overall and in relation to China’s GDP. With a population of 1,415,045,928 people, China currently possesses the world’s greatest economy and population.
At 19.48 percent of GDP, Russia has one of the lowest debt ratios in the world. Russia is the world’s tenth least indebted country. The overall debt of Russia is currently about 14 billion y ($216 billion USD). The majority of Russia’s external debt is held by private companies.
The national debt of Canada is currently 83.81 percent of GDP. The national debt of Canada is presently over $1.2 trillion CAD ($925 billion USD). Following the 1990s, Canada’s debt decreased gradually until 2010, when it began to rise again.
Germany’s debt to GDP ratio is at 59.81 percent. The entire debt of Germany is estimated to be around 2.291 trillion € ($2.527 trillion USD). Germany has the largest economy in Europe.
What happens when country has too much debt?
Economists are looking at what level of debt is sustainable for an economy and how much is too much as part of their work on vulnerability indicators. Borrowing money from other countries can help countries grow faster by funding productive investment and cushioning the impact of economic downturns. A debt crisis can occur if a country or government accumulates debt beyond its ability to service it, with potentially large economic and social implications. As a result, determining how much debt an economy or government can safely handle is critical. This assessment is especially important for developing market economies, which rely significantly on global capital markets to fund their substantial financing requirements.
What is debt sustainability, exactly? It is a circumstance in which a borrower is expected to continue fulfilling its debts without making an excessively big future adjustment to its income and expenditure balance. Debt, on the other hand, becomes unsustainable when it grows faster than the borrower’s ability to service it. To determine how much debt is sustainable, you must consider how existing liabilities are projected to evolve over time, as well as projections regarding future interest rates, currency rates, and income trends. This, like any judgment that requires future assumptions, is tough to get right.
- developing an opinion on how outstanding liabilities will evolve over time in relation to the economy’s (or government’s) ability to pay;
- determining whether the outcomes may result in an unsustainable scenario, as indicated above
The first step is forecasting revenue and expenditure flows, including debt payment costs, as well as major macroeconomic variables including interest rates, economic growth rates, and exchange rate fluctuations (given the currency denomination of the debt). To the extent that government policies influence these factors, debt dynamics estimates are dependent on policy variables as well as macroeconomic and financial market developments, which are inherently uncertain.
Given the uncertainty, it is critical to investigate the risks as a second step. Among the most significant are greater financing costs, which may reflect global financial market developments—including probable spillover effects from other troubled countries—or funding challenges specific to the country in question. Similarly, a fast exchange rate depreciation, possibly—but not necessarily—following the collapse of an exchange rate peg, can dramatically increase the burden of debt denominated in foreign currencies. Indeed, as some recent situations have demonstrated, once a crisis has erupted, the size of capital withdrawals can result in exchange rate revisions considerably in excess of any original predictions of overvaluation, as happened in Indonesia during the 1997-98 crisis.
Contingent claims, such as those linked with either explicit or implicit guarantees of debt or bank deposits, are another key source of uncertainty around debt and debt service predictions. Many contingent claims go overlooked in normal times, but they are more likely to be used in times of crisis. Such assertions have been a recurring theme in recent developing market crises, where defaults in one industry impacted others. However, contingent claims are notoriously difficult to value in practice, partly because the amounts at stake are frequently unknown, and partly because the conditions of the claims—the precise circumstances under which they would become actual liabilities—are frequently unclear.
The third and, perhaps, the most difficult phase in a debt sustainability evaluation is determining a debt sustainability threshold. In other cases, such limits have been imposed for specific groups of countries. Levels above 200 percent for the net present value of debt as a fraction of export revenues, for example, were experimentally associated with a much greater incidence of debt restructurings in severely indebted poor countries. For other non-industrial countries, there is some evidence that a debt-to-GDP ratio of 40% marks a tipping point where debt exposure risks begin to rise. This conclusion, on the other hand, reflects typical conditions in the countries investigated, such as a low amount of foreign assets. In general, when applying a debt threshold to particular countries, extreme caution is required. There is no single threshold that can consistently determine when a country’s debt becomes unsustainable, as country-specific factors and situations other than the debt ratio play a significant impact. For countries with quicker export growth, a larger share of exports in GDP, and a larger share of domestic-currency debt, higher debt ratios are less concerning.
Finally, judgments of sustainability are probabilistic: one can usually imagine certain world conditions in which a country’s debt is sustainable and others in which it is not. When determining whether a country’s debt exceeds prudent levels, there is always some element of judgment involved.
- Balance of payments and fiscal estimates for the medium term—a cornerstone of the IMF’s work on member nations, notably as part of an IMF credit package;
- assessments of medium-term current account and real exchange rate sustainability, which affect public and external debt sustainability, particularly when debt is denominated in foreign currencies; and
- Financial sector stability evaluations are a more recent addition to the IMF’s toolkit; they help identify the financial system’s vulnerability to certain shocks, which could have significant repercussions for the government’s contingent liabilities.
The IMF recently created a standardized framework for analyzing debt sustainability based on these characteristics. The methodology focuses on the IMF’s basic medium-term predictions for a country’s economy and examines both fiscal and external debt sustainability. The methodology includes a standard set of sensitivity tests that generate debt dynamics under different assumptions about important variables, in addition to the baseline forecasts for public and foreign debt (including economic growth, interest rates, and the exchange rate). These alternate assumptions are based on each country’s own history, as evidenced by historical averages and volatility of the relevant variables.
The new approach could be useful in three scenarios. The methodology might assist identify vulnerabilities—that is, how the country might eventually stray into “insolvency territory”—for countries with somewhat high indebtedness but no impending catastrophe. The methodology can be used to analyze the plausibility of the debt-stabilizing dynamics outlined in the program forecasts for countries on the verge of or in the midst of a crisis, enduring acute stress characterized by excessive borrowing costs or a lack of market access. Finally, after a default, the framework can be used to investigate debt dynamics in the aftermath of a possible restructure.
Would the new approach have helped in revealing weaknesses in Turkey in 1999, for example? Yes, it is correct. Even while the estimates did not appear overly optimistic in comparison to previous experience, the framework would have raised concerns about Turkey’s external debt situation in the case of unfavorable shocks.
IMF analysts did sensitivity tests of Turkey’s external vulnerability as it would have been seen at the time of the 1999 IMF arrangement approval to see if the framework would have been effective. The foreign debt ratio was expected to rise by 10% of GNP under the IMF-backed program, while much of this was expected to be offset by an increase in central bank reserves, so net external debt was expected to remain stable (in fact, to decline by about 2 percent of GNP between 1998 and 2001). The debt-to-GNP ratio, on the other hand, increased by about 30%. How did the employees of the International Monetary Fund miss the mark by such a big margin? The biggest source of inaccuracy was the trade imbalance, which was almost 6% of GNP more than expected in 1999-2000. This was due in part to the sharp spike in oil prices, but it was also due to a miscalculation of the imports’ reaction to increasing income. In addition, Turkey’s abrupt withdrawal from the currency rate peg in early 2001 significantly increased debt levels.
What would the framework’s predictions have been? Using five-year averages for the key parameters, it would have predicted a net debt rise of 6% of GNP, rather than the program’s projected fall of 2% of GNP. More importantly, the sensitivity tests would have revealed the projection’s vulnerabilities. In particular, the outcome of a 7% increase in the debt ratio between 1998 and 2000 (prior to the devaluation) was within the two-standard deviation shocks to either the interest rate, real GDP growth rate, or the noninterest current account deficit (this range captures most of the risks to the scenario). Furthermore, the two devaluation scenarios—the two-standard deviation shock to the US dollar deflator growth rate or the normal 30 percent devaluation shock—would have resulted in a net debt ratio increase greater than the 30 percent reported between end-1998 and end-2001.
The framework’s use is still new, but it will be gradually expanded to a wide variety of nations, both for surveillance and to inform IMF financial support choices, with appropriate revisions based on first experience. Although the goal is to bring more consistency and discipline to sustainability assessments, the framework is not meant to be used in a completely mechanical and rigorous manner: depending on nation circumstances, there may be solid reasons to deviate from it to some level. Simultaneously, the core idea of conducting baseline sustainability evaluations and calibrated sensitivity tests should hold true across countries. Finally, additional factors such as the debt structure (in terms of maturity composition, whether it is contracted on fixed or floating rates, whether it is indexed, and by whom it is held) as well as various other vulnerability indicators must be considered when interpreting the results generated by the framework. Market data, such as interest rate and spread expectations reflected in the position and shape of yield curves, access to new borrowing, and whether there have been any disruptions or difficulties in issuing long-term debt, can help put the findings into context.
This article is based on the IMF’s Policy Development and Review Department’s document “Assessing Sustainability,” which was published on May 28, 2002.
Emerging Financial Markets, David O. Beim and Charles W. Calomiris, 2001 (Boston: McGraw-Hill).
“Crises and Liquidity: Evidence and Interpretation,” IMF Working Paper 01/2, Enrica Detragiache and Antonio Spilimbergo, 2001. (Washington).
“Currency Crashes in Emerging Markets: An Empirical Treatment,” Journal of International Economics, Vol. 41 (November), pp. 351-66. Jeffrey Frankel and Andrew Rose, “Currency Crashes in Emerging Markets: An Empirical Treatment,” Journal of International Economics, Vol. 41 (November), pp. 351-66.
Assessing Financial Vulnerability: An Early Warning System for Emerging Markets, Morris Goldstein, Graciela Kaminsky, and Carmen Reinhart, 2000. (Washington: Institute for International Economics).
“Leading Indicators of Currency Crises,” IMF Staff Papers Vol. 45 (March), pp. 1-48, Graciela Kaminsky, A. Lizondo, and Carmen Reinhart, 1998.
“The Twin Crises: The Causes of Banking and Balance-of-Payments Problems,” American Economic Review, Vol. 89 (June), pp. 473-501. Graciela Kaminsky and Carmen Reinhart, 1999, “The Twin Crises: The Causes of Banking and Balance-of-Payments Problems,” American Economic Review, Vol. 89 (June), pp. 473-501.
“Default, Currency Crises, and Sovereign Credit Ratings,” Carmen Reinhart, NBER Working Paper No. 8738, 2002. (Cambridge, Massachusetts: National Bureau for Economic Research).
“The Sustainability of International Debt,” by John Underwood, published in 1990. (unpublished; Washington: World Bank, International Finance Division).
Where does the World Bank get its money?
The bank’s funds come from member countries’ capital subscriptions, bond issuances on global capital markets, and net revenues from interest payments on IBRD and IFC loans.
How much debt is Canada in?
The obligations of the government sector in Canada are referred to as “government debt” or “public debt.” The market value of financial liabilities, or gross debt, for the consolidated Canadian general government in 2020 (the fiscal year ending 31 March 2021) was $2,852 billion ($74,747 per capita) (federal, provincial, territorial, and local governments combined). In 2020, gross debt as a percentage of GDP was 129.2 percent (GDP was $2,207 billion), the highest amount ever recorded. The federal government’s debt accounted for about half of all debt, or 66.4 percent of GDP. The large deficits ($325 billion) generated to support multiple relief measures, particularly in the form of transfers to people and subsidies to businesses during the COVID-19 epidemic, drove the increase in debt in 2020.
The impact of historical government deficits is mostly reflected in changes in government debt over time.
When government spending surpasses revenue, a deficit occurs.
Because the beneficiaries of the goods and services provided by the government today through deficit financing are typically different from those who will be responsible for repaying the debt in the future, deficit financing usually results in an intergenerational transfer.
(Borrowing for a one-time purchase of an asset that supplies commodities and services in the future that are matched to the loan repayment expenses, for example, issuing debt today that is repaid over 50 years to finance a bridge that lasts 50 years, would not result in an intergenerational transfer.)
Why is us in so much debt?
The total national debt due by the federal government of the United States to Treasury security holders is known as the US national debt. The national debt is the face value of all outstanding Treasury securities issued by the Treasury and other federal government agencies at any one moment. The terms “national deficit” and “national surplus” normally relate to the federal government’s annual budget balance, not the total amount of debt owed. In a deficit year, the national debt rises because the government must borrow money to cover the gap, whereas in a surplus year, the debt falls because more money is received than spent, allowing the government to reduce the debt by purchasing Treasury securities. Government debt rises as a result of government spending and falls as a result of tax or other revenue, both of which fluctuate throughout the fiscal year. The gross national debt is made up of two parts:
- “Public debt” refers to Treasury securities held by people, corporations, the Federal Reserve, and foreign, state, and local governments, as well as those held by the federal government.
- Non-marketable Treasury securities held in accounts of federal government programs, such as the Social Security Trust Fund, are referred to as “debt held by government accounts” or “intragovernmental debt.” Debt held by government accounts is the result of various government programs’ cumulative surpluses, including interest earnings, being invested in Treasury securities.
Historically, the federal government’s debt as a percentage of GDP has risen during wars and recessions, then fallen afterward. The debt-to-GDP ratio may fall as a consequence of a government surplus or as a result of GDP growth and inflation. For example, public debt as a percentage of GDP peaked just after WWII (113 percent of GDP in 1945), then declined steadily over the next 35 years. Aging demographics and rising healthcare expenditures have raised concerns about the federal government’s economic policies’ long-term viability in recent decades. The United States debt ceiling limits the total amount of money Treasury can borrow.
The public held $20.83 trillion in federal debt, while intragovernmental holdings were $5.88 trillion, for a total national debt of $26.70 trillion as of August 31, 2020. Debt held by the public was around 99.3% of GDP at the end of 2020, with foreigners owning approximately 37% of this public debt. The United States has the world’s greatest external debt, with a debt-to-GDP ratio of 43rd out of 207 countries and territories in 2017. Foreign countries held $7.04 trillion worth of US Treasury securities in June 2020, up from $6.63 trillion in June 2019. According to a 2018 assessment by the Congressional Budget Office (CBO), public debt would reach approximately 100% of GDP by 2028, possibly more if current policies are prolonged past their expiration dates.
The federal government spent trillions on virus help and economic relief during the COVID-19 pandemic. According to the CBO, the budget deficit in fiscal year 2020 will be $3.3 trillion, or 16 percent of GDP, which is more than quadruple the deficit in fiscal year 2019 and the highest as a percentage of GDP since 1945.
How much money does the US owe China?
Ownership of US Debt is Broken Down China owns around $1.1 trillion in US debt, which is somewhat more than Japan. Whether you’re an American retiree or a Chinese bank, you should consider investing in American debt.
Are there any countries without debt?
Is the national debt important? Is this a sign of financial security? Not all of the time.
According to the IMF database, there is only one “debt-free” country. The relatively low national debt of many countries could be owing to a failure to present true data to the IMF.
Another situation in which a low national debt is a poor omen is when a country’s economy is so weak that no one wants to lend to them.
The ten least indebted countries in the world in 2020, according to IMF data: