HOW DID ADVANCED ECONOMIES GET IN SO MUCH DEBT ? / THE WALL STREET JOURNAL

September 17, 2013, 2:16 PM ET

How Did Advanced Economies Get in So Much Debt?

By Ian Talley

 

The U.S., Japan and Europe risk drowning in debt, with public obligations in rich countries hitting levels close to the historical peak reached in World War II.

How did the most advanced countries in the world get it so wrong?

Overly optimistic budget projections, poor data on government liabilities and a flawed understanding about how shocks can hurt public finances, the International Monetary Fund says in a new policy paper published Tuesday.

Two graphs in the paper are revealing.

In one, the IMF calculates that between 2007 and 2010, unanticipated debt increases totaled more than 26% of rich countries’ gross domestic product.

Another shows how far off European Union members were from hitting their budget targets before the crisis.
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Although largely a largely a stock-taking exercise that pulls together notable research from the fund and other economists since the crisis, the paper kicks off what’s likely to be an official revision to its guidance on budget policies. The IMF acts as a last-chance bailout bank and economic counselor for its 188 member countries.

Criticized by its own auditor for failing to raise sufficient warnings before the crisis, the fund also is now having to re-evaluate its counsel on debt.

It has recalibrated its calculus of the impact of budget cuts on growth in crises, softening its long-hawkish advice on front-loaded budget cuts. It’s pushing countries for better and more honest assessments of government debt, particularly with many countries not accounting for liabilities such as future social security or healthcare costs. And it believes that government debt stocks should be kept at levels much lower than thought before 2007 to allow more room for possible shocks.

But there are still some unanswered policy questions. What constitutes “safe” levels of government debt? Are concerns about massive central bank purchases of government debt less compelling when a country is caught up in a debt crisis? What’s the most appropriate tool for managing an economy in normal times, monetary or fiscal policy?

The IMF’s executive board will answer these and other questions in the coming months.

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