IMF warns rise in government debt could be sharper than anticipated

The IMF said spending cuts and tax rises of an unprecedented size would be needed over the coming five to seven years to stabilize or reduce debt. Photo: Yuri Gripas/Reuters
The IMF said spending cuts and tax rises of an unprecedented size would be needed over the coming five to seven years to stabilize or reduce debt. Photo: Yuri Gripas/Reuters

Summary

Government debts are set to match the annual output of the global economy by the end of this decade, and could cross that threshold much sooner if economic growth is weaker or interest payments are higher than expected, the International Monetary Fund said.

Government debts are set to match the annual output of the global economy by the end of this decade, and could cross that threshold much sooner if economic growth is weaker or interest payments are higher than expected, the International Monetary Fund said Tuesday.

In its twice-yearly report on government finances, the Fund said spending cuts and tax rises of an unprecedented size would be needed over the coming five to seven years to stabilize or reduce debt.

“It’s time for governments to get their house in order," said Era Dabla-Norris, deputy director for fiscal affairs at the IMF. “For all countries, a strategic pivot is needed to reduce debt risks."

If budget policies are unchanged, the IMF estimates that large increases in borrowing by the U.S., China and others will drive a rise in government debt to $100 trillion this year, equivalent to roughly 93% of the world’s annual production of goods and services. The Fund expects government debt to rise further, and almost match annual world output by the end of the decade.

But that could happen sooner if government projections underestimate the rise in debt, as they have done in the past. The IMF said government debts tend to be six percentage points of economic output higher than anticipated after three years.

“There are sizable upside risks," said Dabla-Norris. “Debt could be higher than we expect."

In an extreme scenario, government debt could hit 115% of global output in 2026, while U.S. government debt could reach 150% of the country’s gross domestic product. According to the Fund’s calculations, U.S. government debt started the century at less than 60% of GDP, a proportion that has more than doubled already.

Borrowing surged during the Covid-19 pandemic, while Russia’s invasion of Ukraine spurred a further rise in debt as many European helped households and businesses pay sharply higher energy bills.

But debt is set to continue rising in a number of large economies. In addition to the U.S. and China, the IMF expects to see increases in government debt in Brazil, France, Italy, South Africa and the U.K.. It said delaying action in those countries will make the cuts in spending and tax rises needed to stabilize borrowing even larger.

The new French government Thursday unveiled a budget that aims at narrowing France’s deficit to 5% of economic output by the end of 2025, and 3% by 2029 from 5.5% in 2023.

As it is, the IMF estimates that average cuts in spending and tax rises of between 3% and 4.5% of gross domestic product will be needed to stop the rise in debt at “high probability." Those adjustments are larger than planned, and also larger than previous adjustments.

The Fund’s call for action to reduce borrowing comes ahead of U.S. elections that appear unlikely to produce a move in that direction. According to the Committee for a Responsible Federal Budget, former president Donald Trump’s economic policy proposals would widen budget deficits by an estimated $7.5 trillion over the next decade, while vice president Kamala Harris’s plans would add $3.5 trillion.

Uncertainty about the future path of U.S. budget policy is likely to have a big impact on other governments, the IMF said. Increasingly, changes in the interest rates that governments pay are driven not by changes in their own circumstances, but by changes to the outlook for U.S. budget policy and the interest rates set by the Federal Reserve.

“This type of uncertainty can raise the volatility of borrowing costs and debt risks for other countries," said Dabla-Norris.

The Fund said action to steady and lower debt was needed to create room for governments to support the transition from fossil fuels, increase military spending and care for an aging population. But while spending pressures are on the rise, the Fund noted that “political redlines on taxation have become more entrenched."

According to the Fund, there is scope to increase tax revenues in both the U.S. and the U.K., where they are at a relatively low level as a proportion of economic output compared to rich-country peers. In the U.S., the IMF sees room to raise revenues from sales taxes, as well as taxes on higher incomes.

In poorer countries, the IMF said governments have greater scope to increase tax revenues by making collection more efficient and shrinking the size of the untaxed economy.

Write to Paul Hannon at paul.hannon@wsj.com

Catch all the Business News, Market News, Breaking News Events and Latest News Updates on Live Mint. Download The Mint News App to get Daily Market Updates.
more

topics

MINT SPECIALS