Public Debt

Public Debt

Public debt can be both a tailwind and a headwind on the economy, depending on the size of the debt to the size of the economy.  

Debt is manageable if it grows at a slower rate than economic growth.

Public debt thresholds 

In countries where the public debt is below 60% of GDP, the debt has a positive impact on the economy.

When the size of the public debt is between 60 and 90%, the effects are negligible.

Public debt becomes a headwind on the economy, a downward trend when the debt level rises to 90% of the country’s GDP. 

Public debt above 110% of GDP becomes burdensome, the weight of debt acts like gravity, and the economy falls into a danger zone with a high likelihood of a sovereign debt default. 

Fewer than two-thirds of countries have escaped the black hole threshold of burdensome public debt as it spiralled to a sovereign debt default. 

Public debt of G7s 

The International Monetary Fund’s (IMF) April 2024 edition looks at G7 gross public debts, the total value of a country’s liabilities at a given time. Net debt is gross debt less a country’s financial assets, including cash reserves or investments. 

Here are the gross government debt projections (as a share of GDP) for G7 nations from 2024 to 2029, Source IMF.  

 Japan 254.6% 251.7% -2.9 pp

 Italy 139.2% 144.9% +5.7 pp

 US 123.3% 133.9% +10.6 pp

 France 111.6% 115.2% +3.6 pp

 Canada 104.7% 95.4% -9.3 pp

 UK 104.3% 110.1% +5.8 pp

 Germany 63.7% 57.7% -6.0 pp

So, the highest debt projection is the US, growing its debt by 10.6% from 2024 to 2029 and then the UK, at 5.8%.

Countries with the lowest debt projections in the next five years are Canada at -9.3 pp and Germany at -6.0 pp. 

Japan is the G7 country with the greatest gross debt burden, with a projected debt-to-GDP ratio of 254.6% in 2024. Even if the country is forecasted to see a decline of three percentage points in its share of debt-to-GDP, Japan’s projected debt-to-GDP ratio in 2029 will still be a staggering 251.7%. 

Economic stagnation, an ageing population, and multiple national disasters  could have contributed to the Japanese government’s high debt levels.

Implication of public debt for investors 

When public debt levels hit burdensome levels above 110% of the country’s GDP it becomes a headwind on the economy as the cost of servicing the debt becomes burdensome.

The cost of servicing US public debt is approaching one trillion dollars, the third largest budget item, now greater than defence.

But with the USD as the world reserve currency, the US breaking point, fear of a sovereign default, is higher than that of the UK. 

US reserve currency status means it has exorbitant privileges and can shoulder higher debts.  

The Key point, burdensome public debts lead to currency depreciation and potential currency failures. So, there is a currency risk of holding assets denominated in a currency with public debt higher than 110% of GDP.

The Japanese Yen has been depreciating against USD for the last two decades.