Debt Lessons From Around The World
As members of Congress spar over whether to raise the U.S. debt ceiling, they might consider the efforts of other governments to manage their own debt problems. Some have been successful — some not — but all their experiences are instructive, with lessons for Washington.
Take Canada. Back in 1993, it was burdened by a government debt comparable to almost 70 percent of the country's gross domestic product (GDP). Government overspending had left the country with a big budget deficit. Moody's Investor Service put Canada on a "credit watch" because of the high debt-to-GDP ratio. In an editorial, The Wall Street Journal mocked the Canadian dollar as "the peso of the north," while another Journal article suggested that Canada was on its way to becoming a third-world country.
"Both were exaggerations," says David Henderson, a Canadian-born economist now teaching at the Naval Postgraduate School. "But it was scary to a lot of Canadians."
In response to the growing outcry, the Canadian government, led by the Liberal Party, took action. Spending was slashed. Government assets were privatized. Some taxes were raised.
The effort was successful. As of last year, the debt-to-GDP ratio in Canada stood at just 34 percent. The Canadian economy is growing, and the unemployment rate is almost two points below the U.S. level.
Canada's lesson for the U.S.: When faced with a debt problem, act promptly and decisively to confront it.
Timely government action, of course, may be easier in a country with a parliamentary system like Canada's. Because the prime minister also serves as the leader of the ruling party, there is no divided government such as exists currently in Washington.
"The downside of a parliamentary system is you can get a lot of bad policy quickly," says Henderson, "[but] the upside is, you can get a lot of good policy quickly."
Stay Ahead Of The Problem
Another country struggling with a big debt problem is the United Kingdom. The conservative-led government that took office there last year promptly cut spending and increased taxes in an effort to bring its debt under control and reduce its deficit. International rating agencies were pleased, and the country kept its AAA credit status.
"The good part of the U.K. story is that they tried to get ahead of the problem and undertake some austerity before the financial markets started pushing up their interest rates," notes Simon Johnson, a senior fellow at the Peterson Institute for International Economics.
Another lesson for the United States: It's much better to be ahead of the problem than to fall behind it.
The case of Spain illustrates what happens when that principle is ignored.
"The big mistake Spain made was just to dawdle over the structure of reforms for months and months and months and months," says Gayle Allard, an economist at the Instituto de Empresa in Madrid.
The Spanish experience, as opposed to Canada's and Britain's, shows clearly that dawdling and political squabbling will hurt a country with a debt overhang. Investors in financial markets conclude the government is not serious about getting the deficit under control. The credit rating agencies downgrade the government's debt. It becomes harder to get banks to loan the government money.
"Once markets turn against you, it's too late," says Allard. "Your interest rates are up and you've got higher borrowing costs."
The higher a government's borrowing cost, the harder it becomes to make interest payments and reduce the debt. That's part of Spain's problem now.
But it's not all. The Spanish economy has gotten smaller. This is a debt issue for Spain, because a country's debt weighs much more heavily when its economy is not growing. The richer a country, the more debt it can handle. The more its economy shrinks, the more its debt becomes a burden and the harder it becomes to repay it. This is why the key measure of a country's debt burden is its debt-to-GDP ratio.
"You want to get it down by a combination of reducing debt but also growing GDP," advises Kemal Dervis, a former economics minister in Turkey and now a senior fellow at the Brookings Institution. Dervis and other pro-growth economists argue that countries faced with high debt-to-GDP ratios sometimes put too much emphasis on reducing debt and too little on boosting economic growth in such a way as to make the debt more manageable.
"The name of the game for fiscal sanity is economic growth," says Irwin Stelzer, director of economic policy studies at the Hudson Institute. "You can't just slice your way and cut and cut and cut without stimulating economic growth."
India, a country that just a few years ago was burdened by heavy debt, is well on its way to growing out of the problem, thanks to a booming economy. Spain, on the other hand, is falling behind, in spite of aggressive efforts to cut government spending.
Britain could soon face a similar problem, if the spending cuts and tax increases take so much money out of the economy that growth will be hampered.
"I do believe that Britain has a serious debt problem, and so I'm sure that [austerity] efforts are required," says Dervis, "but one has to look at both the growth side and the debt side simultaneously."
Indeed, Britain, could prove to be another test case for the proposition that debt reduction efforts in some cases actually make it harder for a country to grow its way out of a debt hole.
"The jury is still out," says Simon Johnson of the Peterson Institute. "It remains to be seen what happens to the economy, what kind of adjustment they get."
In sum, here are some lessons gleaned from debt reduction efforts around the world:
- Act swiftly and boldly, if possible.
- Stay ahead of the markets, lest they turn on you.
- Aim not only to shrink the deficit, but also to grow the economy simultaneously.
And remember that economics is never separated from politics. If you really want to impress the markets and ensure a good credit rating for your country, build broad political support for whatever program you want to implement.
ROBERT SIEGEL, host: The U.S. is hardly alone. Many other countries have faced debt crises before or do so now. Some are doing well, some not. And the U.S. can draw lessons from them all. NPR's Tom Gjelten looks at three cases: Canada, Britain and Spain.
TOM GJELTEN: First up, the Canadians. They had a debt crisis of their own in the mid-'90s -overspending, a big budget deficit, the country put on a credit watch, looking at a possible downgrade. And then, the final jolt, David Henderson, a Canadian-born economist, recalls two articles in The Wall Street Journal.
DAVID HENDERSON: One referring to the Canadian dollar as the northern peso, and the other thing that Canada was becoming a Third World country, which is clearly an exaggeration. But it was scary to a lot of Canadians.
GJELTEN: That's all it took. The government swung into action with an austerity program - mostly spending cuts, some tax increases. The debt was driven down. Canada now enjoys economic growth and an unemployment rate almost two points below the U.S. level. Lesson for the U.S.: When faced with a debt problem, act promptly and decisively. Of course, it helped that Canada has a parliamentary system. The head of the government is also the leader of the majority party. No divided government there, says David Henderson, now at the Naval Postgraduate School.
HENDERSON: The downside of a parliamentary system is, you can get a lot of bad policy quickly. The upside of a parliamentary system is, you can get a lot of good policy quickly.
GJELTEN: The Canadians must be rolling their eyes right now as they consider what's going on in Washington. Second case: Great Britain, also with a big debt problem. The conservative-led government that took office last year promptly cut spending and increased taxes. The rating agencies were pleased, and the country kept its triple-A status. Simon Johnson is with the Peterson Institute for International Economics.
SIMON JOHNSON: The good part of the U.K. story is that they tried to get ahead of the problem and undertake some austerity before the financial markets started pushing up their interest rates.
GJELTEN: Again: Get ahead of the problem.
GAYLE ALLARD: That's the big mistake Spain made, just to dawdle over the structure of reforms for months and months and months and months.
GJELTEN: Gayle Allard is at the Instituto de Empresa in Madrid. Here then is what we see from Canada and Britain on the one hand versus Spain on the other: Political squabbling will hurt you. Investors in financial markets decide you're not moving quickly enough. The credit rating agencies downgrade your debt. It's harder to get banks to loan you money. By then, says Gayle Allard, the damage is done.
ALLARD: Once markets turn against you, your interest rates are up and you've got higher borrowing costs for a time.
GJELTEN: Making it all the harder to reduce your debt. That's part of Spain's problem now. Plus, there's something else. The overall Spanish economy has gotten smaller. This is a debt issue, because a country's debt weighs more heavily when its economy is not growing. The richer you get, the more debt you can handle. The more your economy shrinks, the more your debt becomes a burden. What counts is the debt to GDP ratio.
KEMAL DERVIS: You want to get it down by a combination of reducing the debt but also growing GDP.
GJELTEN: Kemal Dervis of the Brookings Institution notes that India once had a big debt problem but simply outgrew it. This is where Spain is failing. It's making some progress on its deficit, finally, but it's not getting the economy to grow. And this could turn out to be a problem for Britain as well. Kemal Dervis wonders whether the spending cuts and tax increases will take so much money out of the British economy that they will hamper growth.
DERVIS: I do believe that Britain has a serious debt problem and so I'm sure that, you know, efforts are definitely required but one has to look at both the growth side and the debt side simultaneously.
GJELTEN: The question is whether debt reduction efforts might in some cases make it harder for a country to grow its way out of a debt hole. Simon Johnson of the Peterson Institute says Britain could be a test case.
JOHNSON: The jury is still out, actually. It remains to be seen what happens to the economy, what kind of adjustment they get.
GJELTEN: So, the lesson here for governments: Aim not only to make the deficit shrink, but to make the economy grow. And repeating the other lessons: Act swiftly and boldly, stay ahead of the markets, lest they turn on you, and remember: economics is never separated from politics - not in Canada, not in Britain or Spain, and clearly not in the U.S. Tom Gjelten, NPR News, Washington. Transcript provided by NPR, Copyright NPR.