|Investment Research Group|
Now imagine you have borrowed a billion dollars. At $1 a second, it would take you 31 years to repay the money. While beyond the means of most people except Bill Gates and most governments, it still sounds conceivable.
Now let’s take a trillion dollars on the same terms. Repayment would take a staggering 31,688 years!
With that number in mind now consider that the USA has a national debt of US$14.4 trillion.
Most investment markets have performed extremely well in the past year but much of this growth has been stimulated by the extraordinary injections of liquidity by central banks. It is still not clear that the real economy can take over when this liquidity is reduced.
Also, it is not clear when or how the borrowing associated with creation of this liquidity and the legacy of running deficits to pay for social welfare programmes will ever be repaid, with interest.
While the USA is a world leader in debt accumulation, Japan is not much better off with national debts of just under US$11 trillion. The UK, with debts of ‘just’ US$1.9 trillion is still going to have a hard job paying those debts off.
New Zealand has a relatively modest debt of $46 billion, although this will still take some effort to pay off (1,426 years based on the assumptions above) Of course, it is easier to pay back a large debt when you have a large income. Therefore, the percentage of debt to annual income is an important measure.
Unfortunately, the major economies don’t look very good on this measure either.
If a couple wishes to borrow money from the bank to buy a house, they are told payments on the loan should not be more than a third of their income.
Governments have the ability to increase their income at will through taxation and so it can be argued they can borrow a higher percentage.
However, the US government’s debts equal 53% of GDP, the UK’s is 69% and Japan’s is an intimidating 192%, none of which inspire confidence.
New Zealand’s is a much more reasonable 27%.
Using GDP is a flawed idea because no government receives all that money as income. If we take as a benchmark that government activities represent around a third of economic activity, then US government has 150% debt to income, Japan has nearly six times and the UK more than double. Again, it is hard to see how these debts can even be serviced, let alone repaid.
The one saving grace is inflation. At 3% a year, much of this debt will be worthless in a few decades.
On the other hand, the debt comes with interest that is designed to match and exceed inflation.
Given this, the only way governments can reduce the value of their debt is if inflation rises faster than the rates it pays on its debts.
Given that interest rates are starting to climb in many countries, the nasty scenario of an inflationary spiral cannot be ruled out.