Government debt

Government debt, also called public or sovereign debt, represents the total financial liabilities of a government. This debt grows when a government experiences a deficit. A deficit occurs when a country's expenditures exceed its revenues. Governments can borrow money from domestic residents or foreign residents. When debt is owed to people in other countries, it is categorized as external debt.

To understand how this works, we must look at debt instruments. These are financial claims that require a debtor to pay interest or principal to a creditor later. Common examples include loans, debt securities like bonds or bills, and even government employee pension obligations. Governments often use debt to conduct fiscal policy. This allows them to avoid immediate tax increases or make long-term investments. By borrowing, they can fund projects that offer future returns.

There are different ways to measure these obligations. Gross debt is the total of all debt instruments. An alternative is net debt, which is gross debt minus financial assets. International comparisons often focus on the general government sector. This includes central, state, provincial, local governments, and social security funds. It does not include the debt of public corporations, such as post offices.

A key indicator of a country's debt burden is the debt-to-GDP ratio. GDP, or Gross Domestic Product, is the total value of goods and services produced in an economy. This ratio allows people to compare debt levels across different sized countries. The OECD uses this ratio to judge if government finances are sustainable. Another important concept is off-balance-sheet liabilities. These include unfunded mandates, like pension obligations, and contingent liabilities, like natural disaster relief spending.

History shows that borrowing has helped build modern states. Records show Greek city-states like Syracuse borrowed from citizens 2,000 years ago. In the 17th and 18th centuries, England created a parliament that included creditors. This improved England's ability to borrow because lenders trusted democratic institutions. The founding of the Bank of England in 1694 was a major turning point.

This helped the British government avoid the kind of defaults seen in 1672. Over time, public debt helped create private financial markets and economic growth.

Debt levels have shifted dramatically through history. In 1815, British debt reached over 200% of its GDP. By 1900, France held the most total debt at over 1 billion pounds. In 2020, global government debt reached US$87.4 trillion. This was 99% of the global GDP. This massive rise was caused by stimulus measures during the Great Recession and the COVID-19 pandemic.

While borrowing can act as an economic shock absorber, too much debt can be risky. High debt can lead to rising interest rates. This might "crowd out" private investment as governments compete for funds. A World Bank report found that very high debt-to-GDP ratios can reduce future economic growth. If debt becomes too high, a country might face a debt crisis. This is when a nation cannot make its payments and cannot borrow more. To prevent this, many countries use rules like Germany's "debt brake" or the EU's 60% GDP limit.