How Wobbly Are the Finances of the World’s Major Governments?
As the world’s most powerful central banks adjust belatedly to the rapid acceleration of price inflation, which began a year ago, some countries are better prepared than others to weather what may come next. In particular, higher prices are pushing up borrowing costs (partly due to monetary tightening), including for governments. Nations that acted as if this day would never come—such as the United States—may find it more difficult than others to avoid painful austerity in the future.
To better anticipate what the coming months might hold for the global economy and for the politics of each of these countries, it is worth comparing their fiscal situations. Which governments have exercised budgetary restraint in recent years, even while confronting sequential global crises? Which have been more profligate? And what do the differences portend for their differing abilities to handle an era when servicing debt may be more expensive than it has been in many years?
While such comparisons are useful, they are not straightforward to construct. Even among the wealthiest countries in the world, there is great diversity in political systems and in accounting concepts. Some nations centralize nearly all decisions involving substantial financial commitments while others delegate some costly public functions to subnational authorities. Looking at just the debts accumulated by central governments could therefore distort the picture.
Accuracy also requires assessing both assets and liabilities. All governments own some financial reserves, and some have substantial holdings. Publicly owned financial investments that are sufficiently liquid can provide offsetting resources to accumulated debt. A focus on government borrowing that ignores such reserves could make some countries look more vulnerable financially than is really the case.
Fortunately, there is a readily available statistic that is a good starting point for a comparative study. The Organization for Economic Cooperation and Development (OECD), the international research group for thirty-eight advanced-economy countries, has long served as a forum for gathering and disseminating useful cross-national comparison data, including data related to public-sector budgeting. The agency’s most comprehensive measure of fiscal resilience is the “financial net worth” of the reporting countries, which includes the main sources of accumulated liabilities (especially public debt) along with financial assets owned by governments. The data is collected for public functions classified as general government responsibilities at all levels of political authority.
When reporting this data, all OECD countries comply with the standards established by the System of National Accounts, a UN-brokered agreement, last updated in 1993, of common definitions of key economic and fiscal measures.
The OECD’s net worth figures reveal a substantial erosion in the financial resilience of governments over the past quarter century. Among the twenty-seven OECD countries that reported data every year from 1995 to 2020, the average deterioration in their net financial position, weighted by population size, was equal to 48 percent of GDP. That result is partially skewed by the outlier that is Norway, which owns the largest sovereign wealth fund in the world, owing to its abundant oil reserves (Norway’s net financial worth in 2020 was 370 percent of annual GDP). With Norway excluded, the weighted average deterioration since 1995 crosses 50 percentage points of GDP.
Several countries stand out for the steepness of their declines. Japan’s net financial position was -20 percent of GDP in 1995, and in 2020 it was -129 percent of GDP—in other words, in just 25 years it worsened by over 100 percent of the country’s annual GDP. Similarly, the United Kingdom experienced a serious deterioration, with a net financial position in 2020 equal to -109 percent of GDP. In 1995, it was -26 percent.
The United States is in the middle of the OECD pack. In 1995, U.S. governments at all levels had a net financial position of -77 percent of GDP. In 2020, it had fallen to -125 percent of GDP. The deterioration was only marginally less severe than it was for Italy, which saw its net position erode from 95 percent of GDP in 1995 to 152 percent in 2020. France fared even worse, with a 62 percent of GDP erosion in its net financial position over the past quarter century.
There were some exceptions to this general trend. Notably, Germany started in 1995 with a net financial worth of -24 percent of GDP. In 2020, after a decade of financial turmoil and one year of a global pandemic, the country’s position had deteriorated only modestly, to -32 percent of GDP. Germany’s relative fiscal strength may suffer some erosion in the coming years as the government grapples with the security threats posed by Russia.
The largest country, outside of Norway, to see a substantial improvement in its net worth was Canada, owing to its strategy of accumulating substantial publicly invested reserves to partially finance state-sponsored pensions in the future. The net assets of the Canada Pension Plan have grown to the equivalent of US$400 billion, which has improved the government’s net financial position from -92 percent of GDP in 1995 to -45 percent in 2020.
Canada’s experience points to a flaw in the net worth measure. The definition includes funded assets that can be used to pay state pension benefits in the future, but it presumes these programs are run on a mostly pay-as-you-go basis. Consequently, benefits earned but payable in future years are not included in the liability calculation.
This omission has the effect of improving the reported position for the United States due to the exclusion of large unfunded liabilities for state and local retirement commitments, not to mention the shortfall that has built up for Social Security at the federal level.
Even so, the OECD data provide a useful window into the relative financial positions of the major advanced economies. France, Greece, Italy, and Spain are regularly criticized for their uneven approaches to fiscal discipline. The OECD data showing a substantial deterioration of their net financial positions over the last quarter century provides more evidence that each of these countries needs to take further steps to lower the risk of a fiscal crisis in future years.
The United States is in no position to lecture them, however. At the turn of the century, after a decade of fiscal consolidation, the federal government was running surpluses. Since then, it has been uninterrupted deterioration, with no end in sight. As borrowing costs rise, the economic risks from these many years of fiscal neglect are now rising rapidly.