Policy Challenges and Bringing Down Public Debt
June 7, 2024
Good morning and welcome to our conference on “Fiscal Policy and Sovereign Debt.”
I would like to begin by thanking our co-hosts: the Center for Advanced Research in Finance at the University of Tokyo and Waseda University.
This conference is part of the IMF’s Sovereign Debt Network project, which brings together leading scholars and senior policymakers to discuss and share their recent work on fiscal policy and public debt.
Our discussion is timely. Even before COVID-19, rising levels of public debt were a growing concern in many countries. But when the pandemic hit, public debts jumped significantly as governments provided huge amount of fiscal support to households and businesses.
Today at 93 percent of GDP, global debt is 9 percentage points above pre-pandemic highs. By 2029 it is projected to reach around 100 percent of GDP.
At the national level, figures are even higher. In the US, China, and Japan respectively, debt-to-GDP ratios are forecast to reach 133, 106 and 251 percent by 2028. Historically, these are levels that have only been seen during wartime.
High debt at a time of high interest rates means rising debt service costs that constrain fiscal space.
The situation is compounded by weak medium term growth prospects.
Together, these factors mean countries are less able to meet rising spending pressures to address challenges such as climate change and aging populations. It also means they have less flexibility to respond to future crises and safeguard financial stability. And some economies, particularly low-income countries, are already in debt distress.
These challenges raise important questions about fiscal policy and sovereign debt. Let me outline four:
First, what makes a debt reduction plan sustainable? And how can governments commit to ambitious but credible adjustment plans?
Growth can help, but with a significant and broad-based slowdown in productivity, this is less likely in the coming years.
For most countries, reducing debt means making tough choices to curb budget deficits—so building public support for these efforts will be vital. Our research has shown that credible medium-term fiscal frameworks and strong oversight by independent fiscal institutions can help in this regard. Fiscal rules can also be helpful in anchoring expectations about the future path of fiscal policy.
Second, what are the implications of rising public debt levels in large economies such as the United States, given they can generate substantial negative spillovers for the global economy?
US debt levels are expected to grow over the next five years and beyond. This could mean higher for longer interest rates, which can be transmitted internationally through financial channels.
Risk sentiment could also spill over from financial centers, which would be detrimental to global growth and investment.
Taken together, this could render otherwise sustainable fiscal paths in several corners of the world unsustainable. Policymakers must be prepared to address this challenge by strengthening their own fiscal policies and frameworks. As shown in our April 2024 Fiscal Monitor, tighter fiscal policy in the US can also help reduce spillovers to other countries through financial channels.
Third, what are the trade-offs involved with exploiting the so-called “convenience yield” that reserve currencies such as the US dollar have? And can it be eroded by the fiscal irresponsibility?
US public debt continues to play a special role as a global safe asset, giving the US government a funding advantage. But this “exorbitant” privileges can be eroded (although this would probably materialize as a slow-moving process). Convenience yield is beneficial to the issuer, but it derives from a service provided by a countries’ liabilities to the global financial system. But as the creditworthiness of the issuer comes into question due to too much debt, the funding advantage is reduced. So, running large deficits and debts because of the convenience yield can be a vicious cycle.
For emerging market and developing economies, sovereign liquidity risks and default risks are interconnected. Questions of who holds debt, the composition of debt, and debt-carrying capacity are critical.
Fourth, how will aging and shrinking populations—including in countries like Japan—influence fiscal outcomes? In the not-too-distant future, many developed countries will have to confront the prospect of sustained deficits.
Understanding how an aging population can influence fiscal outcomes is crucial to be able to help our member countries navigate this challenge. There is no better place to do it than here in Japan, which has been at the leading edge of policy thinking on this issue.
Conferences like these give us the opportunity to explore these and other pressing questions. The insights and research presented here will help us shape the trajectory of fiscal policy in the challenging times that lie ahead. I look forward to these important discussions.
Thank you very much.