History Offers Tips for Getting a Handle on Public Debt

In this article, Marina Primorac uses examples in history to deal with the current deficit problems countries are experiencing.  She notes that countries like Japan, the United States and many European countries are experiencing deficit levels that have surpassed 100 percent of their respective GDPs.  In this study, Primorac uses examples from the IMF database dating back to 1875 to examine the public debt levels in countries.  This study examines six cases: the United Kingdom (1918), the United States (1946), Belgium (1983), Italy (1992), Canada (1995), and Japan (1997).  In this study, Marina Primorac points out three lessons that the countries with high public debt ratios should utilize when they try to reduce their deficits.

Lesson 1: Fiscal consolidation must be complemented by policy measures that support growth.

Japan’s weak economic growth prevented effective fiscal consolidation.  In Belgium, Canada, and Italy, the large fiscal adjustments implemented only effective reduced the debt levels when monetary conditions became supportive.  The United Kingdom tried to devalue the pound.  This led to increased unemployment, poor economic growth, and debt continued to rise.  Although this internal devaluation showed high costs in the United Kingdom, there still needs more research to determine whether to rule out this strategy.  The supportive monetary policy in the United States confirmed success in reducing the debt.  The limits on the nominal interest rates and the bursts of inflation were helpful in quickly reducing the debt ratio.

Lesson 2: Debt reduction is larger and more lasting when fiscal measures are permanent.

Belgium, Canada, and Italy all implemented large fiscal adjustments, but their successes varied based on the length of the adjustment.  Belgium and Canada experienced better results than Italy because their fiscal measures were permanent while Italy’s was meant to be temporary.

Lesson 3: Fiscal repair and debt reduction take time.

Only in post war years periods did country’s public debt reverse quickly.  Taking the example of Belgium, it took ten years for the 7% deficit to move to a surplus of 4%.

Today, Japan, the United States, and European countries should look at this study with caution.  Due to many variables, the effectiveness of fiscal measures to reduce their deficits could have varied results.  However, these findings in this study does provide empirical evidence for how these countries should act.


3 thoughts on “History Offers Tips for Getting a Handle on Public Debt

  1. reed

    The common factor among the solutions that work seems to be growth. You can do whatever you want to nominally change the economic figures, but strong growth can help deal with debt. In the long run, even if debt is high, if you have a balanced budget and some level of inflation, debt issues will (slowly) diminish until is reasonable or manageable. Unfortunately, Japan has to induce inflation. According to http://www.tradingeconomics.com/japan/inflation-cpi japan’s current inflation rate is -.4%, so its debt burden would actually increase over the long run if they froze it at present levels today.

  2. wilburns

    I think Anton is spot on, particularly in Japan’s case relating to Lesson 1. Without growth, all of Japan’s efforts to reduce its debt will have a significantly muted effect in the long run. Unfortunately, the inflation situation isn’t the only growth-related issue Japan is dealing with. The declination of Japan’s population probably has the heaviest negative impact on all growth related efforts by the Japanese government. Unfortunately for Japan, the government may not be able to simply inject the economy with more capital and hope to successfully stimulate growth. According to Yutaka Kusai, the “input driven growth” associated with the East Asian Miracle of the early 1990’s may not be as effective in the modern context as the population of Japan continues to decline. In 1998 she argued that growth based upon “gains in efficiency” could help Japan continue to grow into the future and avoid the problems the Soviet Union faced as their “input driven” tactics were unable to be adapted to changing environments and variables. As stated in another entry, bringing female employee pay up to parity with male pay and therefore encouraging more women to join the workforce may be a way in which Japan can increase its economy’s efficiency.


  3. the prof
    Yes, deflation interacts with debt in an unhelpful manner. But remember that debt can normally be rolled over – when a bond comes new, you interject (say) ¥10 bil into money markets, and guess what, it’s easy to sell a ¥10 bil bond issue…
    So the other issue is what is required to stabilize debt. That requires that net interest (interest rate on debt less growth rate of nominal GDP) be low, which is true on average, and that the government budget can either repay or limit borrowing so that it covers net interest. We’ll go through the calculations in class later this term. Or on popular demand … it’s basic enough I don’t need to prep.
    In any case, my bottom line is that of financial markets: whatever the long-term issues may be, in the short-term no one is worried, the government continues to be able to borrow money at rates that are near zero. That’s fortunate, given the fairly obvious point — but one that, given the state of public debate, needs always to be reiterated — that consolidation or other fiscal changes take time.

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