History Offers Tips for Getting a Handle on Public Debt

History offers useful lessons for countries struggling with high public debt today

Debt reduction needs combination of fiscal consolidation, growth-supporting policies

Public finances require lasting, not temporary, reforms, says new IMF study

A chapter in the IMF’s World Economic Outlook notes that public debt has surpassed 100 percent of GDP in Japan, the United States, and several European countries in recent years (see chart below). This is especially worrying because of the low growth, persistent budget deficits, and looming liabilities due to aging populations in these countries. A result, particularly in Europe, has been ratings downgrades and higher borrowing costs.

The main IMF forecast for the global economy will be released on October 9 in Tokyo.

There is widespread debate about the best way to reduce public debt. Some advocate strict budgets or fiscal austerity; others, reinvigorating growth through spending, or fiscal stimulus; and still others cite the successful post–World War II U.S. strategy of “financial repression”—governments channeling funds to themselves.

Debt since 1875

The study uses an IMF database dating back to 1875 that identifies 26 episodes of debt exceeding 100 percent in the past. The research looks at the policy responses and outcomes in each case, and draws lessons for countries battling high public debt today.

“Indeed, some of the most instructive episodes were those in which public debt increased,” say the study’s authors.

The report offers three lessons for today, after close examination of six case studies of advanced economies in which public debt exceeded the threshold of 100 percent of GDP, spanning a century of experience. The cases—the United Kingdom (1918), the United States (1946), Belgium (1983), Canada (1995), Italy (1992), and Japan (1997)—cover the two postwar eras and the most recent era of peacetime debt buildup.

Growth-supporting policy complements fiscal consolidation

Lesson 1: Fiscal consolidation must be complemented by policy measures that support growth.

In Japan, weak growth prevented fiscal consolidation. Debt continued to climb until the authorities addressed weaknesses in the banking system and corporate sector that limited the efficacy of monetary policy.

And in Belgium, Canada, and Italy, debt did not fall until monetary conditions were supportive. These countries all implemented large fiscal adjustments. But it was only after real interest rates fell that all...