Amongst the Budget Responsibility Rules which the government agreed after the 2017 election, the government is required to reduce the level of net core Crown debt to 20% of GDP within five years of taking office (fiscal year ended June 2022). In a recent speech by Finance Minister Grant Robertson, the government acknowledged adherence to this target. However, beyond the expiry of the Budget Responsibility Rules, rather than target a specific debt-to-GDP ratio the government is considering introducing a target range for debt to be 15-25% GDP.
We thought it would be interesting to see how this range compares internationally and some of the key considerations when thinking about the appropriate level of government debt.
What is Debt-to-GDP?
Debt-to-GDP is a ratio of a country’s public debt to its gross domestic product (GDP). GDP is the total value of all the finished goods and services produced by a country annually. Hence the ratio compares what a country owes to what it produces in an attempt to quantify the ability of the country to repay its debt.
There is no consensus as to what the appropriate ratio is. Generally speaking, a higher ratio is worse as it implies a greater proportion of debt relative to a country’s output, but there are a lot of other considerations to take into account – not least of all the sustainability of the debt levels which requires consideration towards the outlook for GDP growth and government spending needs.
How does NZ compare globally?
Under the NZ Treasury’s Budget Responsibility definitions, as at June 2018 net core Crown debt was $57.5bn or 20% of GDP. The recent Wellbeing Budget forecasts this to increase towards 21% for the next two years before reducing to 17% by the end of the budget’s forecast period in June 2023.
There are different ways to measure debt-to-GDP ratios, therefore in order to allow for international comparisons we refer to the latest IMF’s General Government Gross Debt statistics (April 2019). Based on the IMF’s definitions, NZ’s general gross government debt for 2018 was 29% of GDP.
A detailed list of historic and forecast debt-to-GDP ratios for most countries can be found on the IMF’s database here.
Below, we detail a few of the more topical countries:
- The top 10 highest debt-to-GDP ratios feature Japan at 237% (#1), and some of Europe’s more concerning economies: Greece (183%), Italy (132%), and Portugal (121%).
- The world’s largest economy, the United States isn’t far behind at 106%, with China at 51% and other major economies such as the UK and Germany at 87% and 60% respectively.
- The average for the EU is 82%, which compares to the EU’s Stability and Growth Pact requiring debt-to-GDP below 60% – or at least declining to be within acceptable limits.
- The IMF’s “Advanced Economies” (which includes NZ) average 103% and “Emerging Market and Developing Economies” at 51%.
- Australia’s debt-to-GDP is reported at 41%.
We note the above ratios reflect the IMF’s General Gross Government debt calculations only and do not reflect certain local authority and corporate debt levels which can be elevated in certain countries above.
Considerations for NZ
NZ’s debt-to-GDP and the government’s proposed target range appear conservative relative to all the countries detailed above. But as noted, the debt-to-GDP statistic is only one aspect to consider in assessing the appropriateness of government debt levels for an economy. What is important is the sustainability of debt (currently supported by a low interest rate environment).
Borrowing can be attractive where it enhances the productive capacity of the country. For example, by way of investment in infrastructure and other areas that foster growth, such as education.
However, too much debt can weigh on economic growth – attracting a higher interest burden (at the expense of more productive spending) and less financial flexibility, constraining government spending. High debt can leave economies more vulnerable to shocks such as natural disasters and recession when borrowing becomes more of a necessity to fund repair and fiscal stimulus. Bringing excessive debt under control can further impact growth prospects through austerity measures that can curb government spending and/or raise taxes.
The importance of maintaining financial flexibility can be seen from Ireland’s experience through the GFC. Using IMF data, in 2007 Ireland maintained a relatively healthy debt-to-GDP ratio of 24%, but just five years later in 2012 through a combination of GDP decline and borrowing to fund economic stimulus and bail outs for its banks, the ratio peaked at 120%.
Source: IMF World Economic Outlook (April 2019)
Maintaining financial discipline is particularly important for a small economy like NZ.
Some key considerations for NZ specifically are susceptibility to natural disasters, financial vulnerability from high household and agricultural indebtedness, and reliance on commodity income (especially dairy exports) and key trading partners, particularly China. NZ also has a high dependence on international debt markets for its borrowing. Consequently, it is reliant on the international cost and availability of debt which is outside of its control, and the terms of which can worsen in times of global stress.
NZ’s debt-to-GDP of around 20% appears conservative relative to some of the international post-GFC debt balances. And while arguments can be made for additional borrowing to fund investment for future growth, it will be important for NZ to maintain a level of fiscal prudence relative to its larger international peers to allow capacity to address shocks, reflect its smaller economy and reliance on global markets for export income and borrowing.