Does the Level of Government Debt Matter Anymore?

Friday, September 25, 2020
Does the Level of Government Debt Matter Anymore?

Written by Hudson Adviser Phillip McGann

Check out Phil's article here as a webinar. 

The short answer is no - well not yet at least.

The longer answer is wait and see …

The level of government debt coming into this year was large and growing . The GFC from ten years ago continued to have a lasting impact on government budgets where deficits were the order of the day for the past decade.

Australia had not seen a budget surplus for over ten years and debt levels were growing.

The government was about to announce a budget surplus in the May 2020 budget and would say it was on track to paying down our debt levels. 

Then Covid-19 hit in February.

Governments around the world in response to the medical pandemic effectively closed down huge swathes of their economies to protect their citizens from the virus.

The result - predictably - was a massive  economic  contraction.  Up to 20% in the June quarter for the UK and 9% for the US. Locally we saw a 7% contraction in June.

So the government mandated slowdown was met with government stimulus. Locally the government instigated JobKeeper which has been responsible for supporting over 3 million jobs. It increased the payment rate for JobSeeker just as numbers ballooned away.

But the alternative was not worth thinking about.

If the government did not act a severe recession would have become a full blown depression and we saw how that ended up in the 1930’s - mass unemployment and long lasting economic contraction.

So governments locally and internationally went into stimulus mode and started spraying around cash. This had to be funded and so the level of debt has increased dramatically.

The best measure of this is to compare a countries government debt level to its GDP. In other words how much does a government owe compared to the productive output of its economy.

Debt to GDP ratio

Country

Dec 2019

Projected for 2020

USA

106.9

120

ITALY

134.8

157

JAPAN

236.8

250

AUSTRALIA

45.1

50

Source: Trading Economics website  

So looking at the table Australia compares favourably with other leading economies.  And this is why we can easily fund out debt even though the actual numbers appear enormous.  It is projected the crisis will see the Federal government spend upwards of  $300 Billion.  

The government body responsible for the issuance of Federal Government debt is the Australian Office of Financial Management (AOFM).

Over recent months it has been very active in the debt markets. 

In July it issued 30 year government bonds at 1.94% and raised $15 billion.

In August it raised $21 billion of 10 year debt at a rate of 1.05%

Both issues were oversubscribed substantially so the demand is there from the market  to meet the government’s needs.

So who is buying all this government debt? 

Mostly it is offshore fund mangers and banks and large investment institutions that are keen to get set in AAA rate government debt at interest rates that are slightly better than they get overseas.

So does the level of government debt matter anymore? 

I would argue no - well not yet anyway. 

Investors are happy to fund the government spending  for now but the future will hold many uncertainties around economic activity, interest rates and inflation.

Watch this space!

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