Covid-19 in 2020 precipitated the largest one-year increase in debt since World War II, with global debt reaching $226 billion. Government borrowing accounted for more than half of this increase, with the global public debt ratio jumping to a record high of 99% from gross domestic product. This mountain of debt today poses a monumental political economy challenge.
Having largely erased history from its processes, the modern economics profession tends to discuss public debt in terms of jargon related to self-utility maximizing individuals and social welfare maximizing governments. Yet, in reality, it’s all about politics. As the Italian economist Alberto Alesina once pointed out, managing the public debt boils down to bleeding the rentier, sweating the worker or taxing the entrepreneur to tears.
History offers the best lens through which to grasp the nature of the current debt crisis. So much the better then In defense of the public debt explores the rise of the sovereign debt market from the Italian city-states to the multi-trillion dollar global public debt overhang of the 21st century. Furthermore, it offers an introduction to debt management rooted in historical experience.
The authors show how, over time, governments have shifted from borrowing for the public good of national defense to borrowing for the public good of financial stability, while also financing railways, infrastructure urban resources and social capital, thereby supporting economic growth. The resulting accumulation of debt makes it essential to restore capacities to deal with any future military, health or financial crises.
There are many ways to reduce the debt-to-GDP ratio. These include governments running primary budget surpluses – surpluses before interest – to pay down debt. If the growth rate exceeds the interest rate on the debt, the ratio also decreases. Inflation is another recourse. And then the debt can be restructured or canceled. Which of these tools does more or less work largely reflects the balance of power between debtors and creditors.
The authors point out that after the Napoleonic Wars, the fall in Britain’s debt-to-GDP ratio from 194% in 1822 to 28% nine decades later was based primarily on primary budget surpluses, which outweighed an interest rate differential unfavorable. The franchise was then limited to 2.5% and there was considerable overlap between public creditors and voters. The same dynamic applied to debt reduction in the United States after the Civil War and in France after the Franco-Prussian War.
The expansion of suffrage in the 20th century changed this dynamic as demands emerged for state provision of social security and income. Two world wars also had to be financed. Thus, after 1945, growth played a greater role in debt reduction as governments kept interest rates low and maintained capital controls. Inflation has also played a bigger role, since it is a default solution in distributive struggles where politicians fail to reconcile conflicting interests through legislation.
Why, you will ask me, should the public debt be defended? One reason is that austere moralists dislike debt and fear the burden it could impose on future generations. The book quotes John Boehner, who, when he was Speaker of the United States House of Representatives, said that the debt resulting from the financial crisis was immoral. Rand Paul, a Republican senator from Kentucky, also complained in 2020 that the US tax closet was empty. Similar sentiments prevailed in Germany during the Eurozone crisis towards Greece and Southern Europe more generally.
Another reason is that some economists have argued that fiscal austerity would be expansionary in the eurozone crisis because it would boost confidence, although a IMF Survey 2011 poured cold water on this view.
The authors are under no illusions about the difficulties of coping with the current over-indebtedness given the growing political polarization and anemic growth prospects. Yet they could have been more critical of central bank debt-inducing monetary policies, involving aggressive easing in response to successive bouts of unparalleled tightening during economic recoveries. More thought would also have been welcome on whether or not there is a debt trap in which monetary tightening could now engender a perpetual cycle of financial instability, involving frequent returns to morally dangerous and extremely low.
That said, it is a rich and absorbing narrative that makes the unanswerable case for the legitimacy of incurring massive debt to protect citizens from war, pandemics, and financial crises. The catch is that drawing down current levels of public debt is a political and tactically difficult nightmare. Policymakers’ current penchant for jamming inspires little confidence in a benign outcome.
john.plender@ft.com
In defense of the public debt by Barry Eichengreen, Asmaa El-Ganainy, Rui Esteves and Kris James Mitchener, Oxford University Press, £22.99, 320 pages
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