UK Accounting Glossary
Government debt (“public debt”, “national debt”) is money owed by government, at any level (central government, the federal government, national government, municipal government, local government, regional government).
It’s possible to consider this an indirect debt of the taxpayers.
Government debt can be divided into internal debt, owed to lenders within the country, and external debt owed to foreign lenders. It consists of government bonds, bank loans, and according to some measures, unfunded liabilities such as pension plan payments and goods and services the government has contracted for but not yet paid.
Another common division of government debt is by duration: Short term debt is generally considered to be five years or less, long term is more than ten years. Medium-term debt falls in the middle.
A sovereign bond is a bond issued by a national government as opposed to a municipal bond which is issued by a subdivision of a national government. The risk of sovereign bonds varies widely with some bonds such as United States treasury bonds being considered the safest US dollar investment known and others, such as the bonds of many developing nations, are considered highly speculative.
Municipal bonds or “munis” in the United States are debt securities issued by municipal government agencies.
Today, public debt is often denominated in U.S. dollars. The U.S. Federal Reserve sells its long bond, a 30-year instrument (though in recent years only a 10-year bond has been sold), directly to central banks of other countries, who then often find it convenient to lend in U.S. dollars to others, or buy their bonds using those U.S. dollars.
This standard of deferred payment effectively insulates the U.S. from the risk of a change in currency values on foreign exchange markets. Seeking similar advantages, the EU issues the Euro’s bonds and competes as what is called a reserve currency — that currency which is most acceptable to pay off public debts, taxes, or purchase what can be sold quickly.
Countries that borrow in denominations of their own currency will gain very similar advantages, however, since the purchasing power of the money repaid (as measured in U.S. dollars or Euros) may vary considerably from that which was expected at the commencement of the loan, a higher interest rate is always charged for such instruments. Some countries, like China, do not allow their currency (the renminbi) to trade outside the country or on currency markets. These must always use one of the global reserve currencies.
During the gold standard period, which began in the 19th century and ended as an international system in 1933, public debt was most often repaid strictly in gold bullion.
The Bank for International Settlements is an entity that sets rules to define what loans qualify as “risk-free” or not. It is a very powerful institution, which has had a pivotal position in central banking since its opening in 1947. It was formed by the Bretton Woods agreements of 1944, which in the context of World War II, specified the U.S. dollar as the universal global reserve currency, and pegged the dollar to a fixed amount in gold. While this ability to redeem dollars in gold legally ceased in 1970, it was effectively a fiction for decades.
Lendings to a national government in the country’s own sovereign currency are often considered “risk-free” and are made at a so-called “risk-free rate”. This is because the debt and interest can be repaid by raising taxes or raising charges or, failing that, the simple expedient of printing more money. US Treasury bonds are denominated in US dollars are often considered “risk-free” but this ignores the risk to foreign purchasers of currency exchange rate movements.
Lendings to a national government in a currency other than its own does not allow for the same confidence in the ability to repay but this is offset somewhat by reducing the exchange rate risk to foreign lenders.
Lendings to a local or municipal government can be just as risky as a loan to a private company. Local government loans are sometimes guaranteed by the national government and this reduces the risk. In some jurisdictions, interest earned on local or municipal bonds is tax-exempt income, which can be an important consideration for the wealthy.
Public debt clearing standards are set by the Bank for International Settlements, but defaults are governed by extremely complex laws which vary from jurisdiction to jurisdiction. Globally, the International Monetary Fund has the power to intervene to prevent anticipated defaults. It has been very heavily criticized for the measures it advises nations to take, which often involve cutting back essential services as part of an economic austerity regime. In triple bottom line analysis, this can be seen as degrading capital on which the nation’s economy ultimately depends.
Private debt, by contrast, has a relatively simple and far less controversial model: credit risk (or the consumer credit rating) determines interest rate, more or less, and entities go bankrupt if they fail to repay. Governments cannot really go bankrupt (and suddenly stop providing services to citizens), thus a far more complex way of managing defaults is required.
Smaller jurisdictions, such as cities, are usually guaranteed by their regional or national levels of government. When New York City over the 1960s declined into what would have been a bankrupt status (had it been a private entity) by the early 1970s, a “bailout” was required from New York State and the United States. In general, such measures amount to merging the smaller entity’s debt into that of the larger entity and thereby gaining it access to the lower interest rates the large one enjoys. The larger entity may then assume some agreed-upon oversight in order to prevent recurrence of the problem.
In the dominant economic policy generally ascribed to theories of John Maynard Keynes, sometimes called Keynesian economics, there is tolerance for quite high levels of public debt to pay for public investment in lean times, which can be paid back with tax revenues that rise in the boom times.
As this theory gained popularity in the 1930s globally, many nations took on public debt to finance large infrastructural capital projects — such as the U.S. system of interstate highways — or large hydroelectric dams. It was thought that this could start a virtuous cycle and rising business confidence since there would be more workers with money to spend. However, it was only the military spending of World War II that really ended the Great Depression.
Nonetheless, the Keynesian scheme remained dominant, thanks in part to Keynes’ own pamphlet How to Pay for the War, published in his native United Kingdom in 1940. Because the war was being paid for, and being won, Keynes and Harry D. White, Assistant Secretary of the United States Department of the Treasury, were, according to John Kenneth Galbraith, the dominating influences on the Bretton Woods agreements, and set the policies for the BIS, IMF, and World Bank, the so-called Bretton Woods Institutions, launched in the late 1940s.
These are the dominant economic entities setting policies regarding public debt. Due to their role in setting policies for trade disputes, the GATT and World Trade Organization also have immense power to affect foreign exchange relations, as many nations are dependent on specific commodity markets for the balance of payments they require to repay debt.
Understanding the structure of public debt and analyzing its risk requires one to:
The scale of public debt makes little sense to assess without the structural and timing considerations above. However, most analysts consider a U.S. budget deficit of over US$500 billion per year to represent a problem that must be addressed quickly.
Also, per capita measures may not be appropriate in developing nations, which have far more people than capital, who often work for nearly nothing: one billion people live on under US$1/day, two billion more on under US$5/day. This is almost half the world’s population.
Global debt is of great concern, especially as very often, social capital is depleted (say by downloads of health or welfare services on families or friends), and natural capital is ravaged for “natural resources” to make interest payments.
This has led to calls for universal debt forgiveness for poorer countries. A less extreme measure is to permit civil society groups in every nation to buy the debt in exchange for minority equity positions in community organizations. Even in dictatorships, the combination of banks and civil society power could force land reform and require unaccountable governments out of power, since the people and banks would be aligned against the oppressive government. This does not appeal to advocates of socialism, however.
Creditary economics and Islamic economics argue that any level of debt by any party simply represents a violent and coercive relationship that must end. As the existing system of public debt finance based on Bretton Woods is critical to the financial architecture, significant monetary reform would be required to realize this.
Less extreme accounting reform measures seek to make the actual structure and impact of debt far more visible.
Sovereign debt problems have been a major public policy issue since World War II, including the treatment of debt related to that war, the developing country “debt crisis” in the 1980s, and the shocks of Russia’s default in 1998 and Argentina’s default in 2001. For a comprehensive discussion of the procedures that have evolved for resolving the problems of governments that have defaulted on their contractual debt obligations, see Restructuring Sovereign Debt: The Case for Ad Hoc Machinery, by Lex Rieffel, Brookings Institution Press, 2003.
Government “implicit” debt is the “promise” by a government of future payments from the state. Usually, long term promises of social payments such as pensions and health expenditure are what is referred to by this term; not promises of other expenditure such as education or defence (which are largely paid on a “quid pro quo” basis to government employees and contractors, rather than as “social welfare”, including welfare per se, to the general population).
The problem with the implicit government insurance liabilities is that it’s very hard to make any accurate assumptions about it, since the scale of future payments depends on so many factors. First of all, the social security claims are not any “open” bonds or debt papers with a stated timeframe, “time to maturity”, “nominal value”, or “net present value”. In the United States, there are no money in the government’s coffers for social insurance payments, or for any payments, more than what’s required to run the day-to-day business. This insurance system is called PAYGO (pay-as-you-go) as opposed to save and invest. The fear is that when the “baby boomers” start to retire the working population in the United States will be a smaller percentage of the population than what it is now, for a perhaps incalculable future. Which will make the government expenditures “burden” on the country larger than the 35% of GDP that it is now. Remember that the “burden” of the government is what it spends since it can only pay its bills through taxes, debt, and inflation of the currency (government spending = tax revenues + change in government debt held by public + change in monetary base held by the public). “Government social benefits” paid by the United States government during 2003 was $1.3 trillion
This section does not obviously fit in this article. Possibly an article entitled “The decline and fall of Canadian cities” would be better suited.
Structural considerations taken into account, it will be much easier to public investment fits into fiscal policy. This, in turn, makes it possible to assess the scale of public debt and whether it presents any problems:
An example will best illustrate how. If interest payments become a major budgetary item, as they did in Canada in the 1980s, a government may impose measures to download on regional or municipal levels, again as Canada did in the 1990s. This will, however, require cutbacks in lower-level services such as road maintenance and municipal support for such services as welfare, as happened in such cities as Toronto, Ontario. Since such cities continue to pay taxes, ultimately, a lower percentage goes to local, and more to regional and federal priorities. In Toronto, 93 cents of each dollar collected in taxes is spent outside that city — this, in turn, can lead to the social unrest and declining quality of life that will trigger an exodus of talent for the city’s instructional capital and individual capital dependent industries: arts, finance, insurance, etc., and thus a decline in the tax base.
It would be impossible to assess the municipal issues without looking at regional or national concerns — for instance, whether another city in Canada could become a competing financial centre, or an arts centre, to accelerate civic decline. In ‘, 1980, Jane Jacobs noted in the wake of shifts of financial and other national institutions to Toronto that “We now have a difficulty unprecedented in Canada. We have never before had a national city which lost that position and became a regional city. We have one now. Montreal cannot sustain the economy it had in the past, nor retain its many other unusual assets if it subsides into becoming a typical Canadian regional city. If that is all it does, it will stagnate economically, and probably culturally too.”
So, while Toronto in the 1970s was clearly gaining from Montreal’s decline, making public investment seem like a good investment, this would have been clearly a “boom time” — while Montreal experienced a “lean time” if not a “crash”. No common policy for both would have been appropriate, according to Keynes’ model of investing in lean times to pay back in boom times. However, the political will to cease the investment in “winners” is not usually there.
The result, in all industrial nations in the 1970s and 1980s, was a rapid rise in both public debt and interest rate inflation. This situation did not come under any kind of control until the 1990s when inflation was conquered at a great social and environmental expense — as in the example of Toronto.
In the United States, the federal government already had intervened to protect cities (as in the example of New York City), guarantee their “muni bonds”, and provide direct transfers of federal tax monies to municipalities. This moved billions of dollars per city to offset the tendency for governments to “download”.
Accordingly, investment in American cities continued, but, U.S. public debt grew while Canada’s began to shrink (as of the end of 2003 it was still larger per capita than the U.S. debt but falling, and the U.S. debt was widely expected to pass it and become the highest of any G8 nation).
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This glossary post was last updated: 13th February 2020.