Debt-to-GDP ratio is a measure of a country’s public debt as a percentage of its gross domestic product (GDP). It is calculated by dividing the total national debt by the country’s GDP. So a country’s debt-to-GDP ratio is key to measuring its fiscal health and economic stability. A high debt-to-GDP ratio means more money going into interest payments, making countries vulnerable in times of crisis and downturns.
A high debt-to-GDP ratio can have several negative effects on a country’s economy, including:
A high debt-to-GDP ratio can lead to reduced economic growth. This is because the government may have to raise taxes or cut spending to service its debt. This can reduce the amount of money available for private investment, which can slow down economic growth.
A high debt-to-GDP ratio can also lead to increased interest rates. This is because investors may demand a higher risk premium to lend money to a country with a high debt burden. This can make it more expensive for businesses to borrow money, which can also slow down economic growth.
- Increased risk of default
A high debt-to-GDP ratio can also increase the risk of default. This is because a country may not be able to afford to pay back its debt if its economy takes a downturn. If a country defaults on its debt, it can hurt its credit rating and make it more difficult to borrow money in the future.
The stock market can also be affected by a country’s debt-to-GDP ratio. A high debt-to-GDP ratio can lead to a decline in stock prices. This is because investors may become concerned about the government’s ability to repay its debt, which can lead to a sell-off in stocks.
Here are some of the examples from the past of how the debt-to-GDP ratio has affected the economy and stock market in different countries:
Between 2009 and 2017, the Greek government’s debt rose from €300bn to €318bn. However, during the same period, the Greek debt-to-GDP ratio rose from 127% to 179% due to the severe GDP drop during the handling of the crisis. This led to a financial crisis in Greece, which required the country to receive a bailout from the European Union and the International Monetary Fund. The bailout included several austerity measures, which led to a decline in economic growth and a fall in the stock market.
Argentina’s debt-to-GDP ratio has been volatile in recent years. The country defaulted on its debt in 2001, and it has since struggled to repay its debts. The Argentine stock market has also been volatile, and it has underperformed the other developed markets.
Lebanon’s debt-to-GDP ratio is one of the highest in the world. The country has been in a financial crisis since 2020, and the debt-to-GDP ratio has only worsened since then. The Lebanese stock market has collapsed, and it is unclear when the market will recover.
Sri Lanka’s debt-to-GDP ratio has also been rising steadily in recent years. The country defaulted on its debt in April 2022, and the economy is in a state of crisis. The Sri Lankan stock market has collapsed, and it is unclear when the market will recover.
These are just a few examples of how debt-to-GDP ratios have affected countries’ economies and stock markets
Present Day: July of 2023
Japan’s debt-to-GDP ratio is currently over 225%. the highest globally, and its debt has hit $9.2 trillion. This has led to concerns about the country’s ability to repay its debt. Over the past three years, its ratio has risen by 25.9 percentage points due to social welfare packages and the costs of an aging population. As a result, last year, Japan allocated 22% of its annual budget to debt redemption and interest payments, which exceeded the combined 15% spending on public works, education, and defense.
The high debt burden has also weighed on the Japanese stock market, which has underperformed more than other major stock markets in recent years.
The United States made headlines recently for blowing past its debt limit. As of March 2023, its quarterly debt-to-GDP ratio stands at 121.3%, US debt crossed $31 trillion for the first time, raising concerns that it would breach the $31.4 trillion debt ceiling. However, a fresh debt limit bill signed on June 3 raised the ceiling and averted a default. (Hidden Secret: this was one of the reasons for the US FED to increase the interest rate recently in July 2023)
The United Kingdom has rejoined the “100% debt to GDP ratio club” after 60 years, with a quarterly ratio of 100.1% as of May 2023. Debt has been increasing since the pandemic due to rising costs post-Brexit, energy subsidy schemes, inflation-linked benefit payments, and interest payments on debt.
In contrast, France has shown a declining debt trend post-pandemic, despite increased social security payments and an aging population. Finance Minister Bruno Le Maire expects the debt-to-GDP ratio to decline to 108.3% by 2027 on the back of plans to control spending and use 30 billion euros in savings from the relief fund for the energy crisis towards lowering the debt.
Germany has a quarterly debt-to-GDP ratio of 65.9% as of March 2023. The country has maintained a stable ratio over the years, but the pandemic caused an abrupt increase of 9 percentage points. Currently going through an energy crisis, the government has allocated $800 billion to address the situation. To manage the situation better, the Finance Ministry is also planning to restore the borrowing cap known as the debt brake. As a result, the annual ratio is expected to fall by another 220 bps to 64.1% in 2024.
China’s debt ratio is at 21.4%, the lowest among the countries in focus. However, it has increased by 4 percentage points since the pandemic, driven by local authorities borrowing heavily to support the economy amid the central government’s zero-COVID policy. As a result, credit to the nonfinancial sector reached $51.87 trillion, accounting for 295% of GDP in 2022. China’s debt as of April 2023 stands at $14.4 trillion.
As of March 2023 debt ratio stands at 72.8%, which is well under its general threshold limit of 77%. Despite higher government spending, Brazil has managed to reduce its debt-to-GDP ratio by approximately 15.8 percentage points since the pandemic. The Brazilian central bank says this was due to a higher-than-expected economic growth (3%) in 2022, the rise of the Brazilian currency against the , and net debt redemption. As of December 2022, total government debt stands at $36.6 billion, the lowest in five years.
South Korea and Indonesia are the other two countries with low debt-to-GDP ratios, at 47.8% (December 2022) and 39.1% (March 2023) respectively.
However, South Korea’s annual ratio has also increased since the pandemic and is estimated to reach 57.2% by 2026. The government has proposed spending cuts for the first time in 13 years to cope with the pandemic’s effects and inflationary pressure.
Indonesia has reduced its ratio by 120 bps in the past year, thanks to a 7.6% YoY fall in external debt as of December 2022. This declining trend is because of the government moving its bonds to local markets amid unstable global financial conditions. However, Currently, the country is facing loan default problems from various construction companies, including the $8.3 billion default by Waskita Karya. As of April 2023, the total government debt stands at $532.2 billion.
India’s debt to GDP improves from the pandemic peak
India’s quarterly debt-to-GDP ratio stands at 55.7% as of March 2023, according to the latest estimates by the Ministry of Finance. During the COVID-19 pandemic in March 2021, the debt-to-GDP ratio reached 58.7% (an increase of 11.6 percentage points from the previous year) as the government borrowed more to cover additional expenses, amid declining revenues and a sharp fall in GDP. The quarterly ratio has fallen by 300 bps since the pandemic peak in March 2021. The country’s government debt levels have stabilized, with low risks of currency fluctuations and high-interest rates.
India’s annual debt-to-GDP is estimated to fall from 84.5% in 2022 to 83.8% by 2025, driven by capex-led growth planned in the 2023 fiscal budget. For reference, the annual 10-year average ratio of India is around 74.2%.
The impact of debt-to-GDP ratios on countries’ economies and stock markets is complex. There is no one-size-fits-all answer, as the impact will vary depending on many factors, such as the country’s economic growth, interest rates, and risk of default. However, in general, a high debt-to-GDP ratio can have negative consequences for a country’s economy and stock market.
Some economists believe that the high debt burden could lead to a decline in economic growth and a fall in the stock market in the future. Overall, a high debt-to-GDP ratio can have several negative effects on a country’s economy and stock market. Governments need to manage their debt levels carefully to avoid these risks.
Disclaimer: The above article is for self-learning/educational purposes. The analysis was conducted by the following students: G10 and Rakeshji for learning purposes.
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