Lessons from a century of large public debt reductions and build-ups

by S. M. Ali Abbas, Nazim Belhocine, Asmaa El-Ganainy and Mark Horton

Vox
December 18, 2011

As policymakers continue to grapple with high debts and the troubles that come with them, this column looks at the lessons from data on public debt in 178 countries stretching back as far as 1880. It argues that when faced with an unsustainable debt burden, slow but steady adjustment is the way to go.

Empirical work on debt cycles and debt sustainability has been constrained by lack of public debt data on a large number of countries over a long time period. Existing studies are based on datasets that either cover short time periods (such as Jaimovich and Panizza 2010) or omit a large number of countries (such as Reinhart and Rogoff 2010). In our latest study (Abbas et al 2011), we compile a comprehensive historical public debt database covering 178 countries, starting from 1880 for G7 countries and a few other advanced and emerging economies, and from 1920 for additional advanced and emerging economies. For low-income countries, data coverage generally starts in 1970 (Abbas et al 2011).

Figure 1. Debt-to-GDP ratios across country groups, 1880–2009 (Group PPPGDP-weighted averages, in percent of GDP)

Figure 1 provides a broad historical perspective of debt developments in advanced, emerging, and low-income economies. Debt levels in advanced economies (now the G20) averaged 55% of GDP over 1880–2009, with a number of peaks and troughs that correspond with key historical events along the way.

• During the first era of financial globalisation (1880–1913), debt ratios trended down as public finances were, for the most part, under control, and growth was supported by an unprecedented level of gold standard-enabled financial and trade flows. Debt ratios reached their lowest level – 23% of GDP in advanced economies – in 1914, when the First World War began.
• But war and the fiscal crises that followed, the Great Depression (early 1930s), and World War II (1941–45) drove debts upward (to almost 150% of GDP in 1946).
• By 1960, however, debt ratios had declined to 50% of GDP on the back of strong postwar reconstruction and in some cases moderate, high, or even hyper inflation.
• Debt ratios began to rise again starting in the mid-1970s, with the end of the Bretton Woods system of exchange rates and the two oil price shocks. Expanding welfare states, moderating growth, and higher interest rates all contributed to this seminal peacetime increase, which the present crisis has exacerbated.

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