Singapore has a 112.2% debt to GDP ratio and Japan's government debt accounted is at 239% of the country's GDP!. Australia's debt is at a low 39.6% of their GDP and the United Kingdom's government debt is similar to ours at 85.3% to their 2017's GDP.
What is a good or bad debt-to-GDP ratio?
A high debt-to-GDP ratio isn't necessarily bad, as long as a country's economy is growing. Credit Rating Agencies gave Japan's debt-to-GDP ratio very little attention, but Greece's 160% got analysts predicting its collapse. The reasons for these differences vary, but can include:
- Buyers of the Debt - A higher debt-to-GDP ratio is acceptable when the buyers of the debt are either domestic investors (citizens) or repeat buyers that have a reason for buying. For instance, Japan's buyers are domestic and the U.S.'s buyer (China) purchases debt to keep a favorable trade balance with its largest consumer.
- Economic Growth - A higher debt-to-GDP ratio is acceptable when an economy is rapidly growing because its future earnings will be able to pay off the debt more quickly. For instance, a country projected to grow 5% next year will automatically see the ratio decline, whereas a country projected to contract will see it grow.
- Plan of Action - Countries with a viable plan to address a high debt-to-GDP ratio may receive some leniency from rating agencies. But those without a plan often face sharp downgrades and criticism. For example, Greece in 2011 did not have a viable plan of action and faced harsh criticism from rating agencies.
Common solutions to a high debt-to-GDP ratio:
- Cut Government Spending - Governments with a high debt-to-GDP ratio can cut spending to reduce their debt burden. However, the trick to successfully cutting spending is not to deter growth and undermine the GDP portion of the equation.
- Encourage Growth - Central banks can encourage growth by cutting interest rates, which (in theory) leads to easier commercial lending. Higher growth increases the GDP end of the equation and lowers the overall debt-to-GDP percentage.
- Increase Tax Income - Governments can increase taxes as a way to pay off debt. But again, the trick is to increase taxes in a way that does not affect GDP growth and undermine the denominator in the equation.
"Let me emphasize that the fundamentals of the economy remain strong. The financial sector is stable, the banking sector is well-capitalised and there is sufficient liquidity in the market. We believe that with the new administration focused on CAT (competency, accountability and transparency), investor confidence will only be strengthened over time. Together with the commitment of the new Government as well as the support of Malaysians all over the country, we will definitely succeed in saving our country," - Finance Minister Lim Guan Eng (24 May 2018)
Monetary policy and sovereign debt are complex topics. You can get an advanced degree in this stuff, and still not quite understand it. So unless you yourself are economically savvy, it’s best left to the experts to scrutinise the decisions of government's new action plan. Life is complicated enough already.