Finance ministers and central bankers, gathering this week in Washington for the annual meetings of the IMF, face a global trading system in disarray, uncertainty over the US dollar’s standing and the likely course of interest rates, and financial markets that are (for now) unnervingly complacent.
Amid all these challenges, policymakers must pay particular attention to one more: Following years of neglect, public debt has emerged as an increasingly serious risk.
Five years ago, budget deficits soared worldwide because of the COVID-19 pandemic. Lockdowns throttled economic activity and squeezed tax revenue, while public spending surged as governments tried to protect the most vulnerable. Deficits increased from 3.5 percent of global output in the year before the emergency to 9.5 percent in 2020.
No question, a strong fiscal response was necessary — but, as many argued at the time, it should have been reversed in due course. It was not. Even now, deficits are higher than they were in 2019.
Before the pandemic, government debt was 84 percent of global GDP. It currently stands at 95 percent. In country after country — including the US, the UK and most of the EU — it is on track to keep growing faster than output. By 2030, even if all goes well, the global debt ratio might surpass the level it surged to in 2020, when the fiscal emergency was at its worst.
Public debt, to be clear, is not bad in itself, and there is no fixed ceiling on how high it can safely go, but as it rises, so-called fiscal capacity shrinks, leaving governments less room to maneuver when the next crisis comes around. Eventually, a combination of protracted indiscipline, bad economic news and souring financial markets can dig countries into a hole so deep that the only way out is some form of debt default, either explicit or disguised by high inflation.
Attitudes shifted after the global recession of 2008, and they need to shift back again. Because the post-crash recovery was so sluggish, “austerity” — the effort to roll back the earlier stimulus — got a bad name. There was talk of “secular stagnation” as interest rates fell to historic lows, which were then thought to be permanent. Cheap money for years to come made bigger deficits affordable. Balance the budget? From now on, public borrowing would pay for itself.
The facts have changed, but the mindset persists. Most US policymakers have simply stopped caring about ever-rising debt. Elsewhere, governments might pay lip service to the need for discipline — in some cases adopting budget rules or creating “fiscal councils” to address the problem — but their actions have fallen short.
If long-term inflation-adjusted interest rates outpace economic growth and drift even higher, debt would keep trending upward and deficits would be ever harder to cut.
That is all too likely. In the US and Europe, aging populations are raising dependency ratios, pushing revenue down and social spending up. Governments are acknowledging the need for bigger defense outlays. New and better infrastructure is urgently required, including for the clean-energy transition. Coping with the next recession, to say nothing of the next pandemic, is a matter of when, not whether.
The only alternative to an eventual fiscal breakdown is to combine spending restraint with new revenue. First, policymakers must understand just how vulnerable their economies have become. It is way past time for them to rediscover budget discipline — and actually plan to do something about it.
The Bloomberg Editorial Board publishes the views of the editors across a range of national and global affairs.
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