Here’s a trivia question to startle your friends with. According to International Monetary Fund statistics, what country has the highest government debt levels, compared with its Gross Domestic Product (GDP), in the world?
You might be inclined to guess troubled or developing nations like the African nation of Eritrea (134% of its 2011 GDP), Lebanon (136%), or Jamaica (139%)–or, if you were aware that it existed, the sovereign nation of Saint Kitts and Nevis (153%), a former British colony located in the beautiful Caribbean Leeward Islands north of Venezuela.
After reading so many headlines, you might guess that Greece (161%) is in the deepest debt hole, or perhaps the United States (103%).
As it happens, none of these countries is even close to the runaway leader in government debt as a percentage of its economic output: Japan, which is paying interest on bonds whose face value equals more than 229% of Japan’s GDP.
Perhaps the most interesting takeaway about this bit of trivia is bond traders don’t seem to be worried about Japan’s ability or willingness to pay back its creditors. As you might have seen from the headlines, when investors are worried about a country’s soaring debt levels, they will often demand higher rates to compensate for the risk. This makes the interest rate that a country pays fairly good proxy for how concerned (or not) investors are about the country’s solvency. With that in mind, look at the little table below, which shows the debt to GDP levels of various countries next to their 10-year bond rates. Think of it as a comparison between how much global bond investors SHOULD be alarmed vs. how alarmed they actually are.
Country 10-Yr Bond Rates 2011 Debt/GDP
Greece 28.66% 160.61
Pakistan 13.37% 60.12
Brazil 12.55% 66.18
Portugal 11.36% 106.79
India 8.35% 68.05
Hungary 8.28% 80.45
Ireland 8.21% 104.95
South Africa 8.20% 37.88
Colombia 7.60% 34.67
Peru 6.76% 21.64
Indonesia 6.47% 25.03
Spain 6.09% 68.47
Russia 6.00% 9.60
Mexico 5.92% 43.81
Italy 5.70% 120.11
Poland 5.35% 55.39
Israel 4.41% 74.34
South Korea 3.65% 34.14
Thailand 3.64% 41.69
Malaysia 3.51% 52.56
China 3.38% 25.84
New Zealand 3.30% 37.04
Czech Republic 3.25% 41.46
Australia 3.09% 22.86
Belgium 3.00% 98.51
France 2.57% 86.26
Norway 2.38% 49.61
Austria 2.24% 72.20
Netherlands 1.84% 66.23
Canada 1.83% 84.95
United Kingdom 1.72% 82.50
Finland 1.69% 48.56
United States 1.65% 102.94
Sweden 1.48% 37.44
Singapore 1.44% 100.79
Germany 1.38% 81.51
Hong Kong 0.96% 33.86
Japan 0.88% 229.77
Switzerland 0.65% 48.65
Comparing the right-hand column with the one in the middle, you see some head-scratching anomalies. Greece, which has the second-highest debt-to-GDP level in the world, pays by far the world’s highest interest rates on its debt, which seems appropriate. But Italy, which is not far behind on the debt list, is paying interest rates somewhere near the middle of the pack, and the U.S. and Singapore, which have significant debt levels compared with the rest of the world, are paying almost nothing for the privilege of borrowing from global investors. Meanwhile, relatively thrifty countries like Colombia, Peru and Indonesia are paying much higher yields than debt-burdened Belgium, France and Singapore.
By far the biggest outlier on the table, however, is Japan, with debt-to-GDP levels more than twice as high as the US, paying rates lower than anybody on the table but Switzerland. How can that be? Because more than 90% (some estimates say more than 95%) of Japan’s government bonds are owned by Japanese citizens, compared with an estimated 57% in Italy, and 54% in the U.S. So, if Japan decides to stiff its bond holders, 95% of them will be Japanese (the same people who vote the politicians into office). Japan has found that its own population is willing to subsidize the overspending and if (or when) Japan defaults, the taxpayers (read voters) will take the biggest hit, no wonder Japan does not have to go outside of its boundaries to find investors and charge a higher rate on its bonds.
So, Japan is an anomaly, it can ignore supply and demand for the moment. In other words, the global bond markets cannot demand higher interest rates on yen-denominated government bonds because they don’t own Japanese debt; global investors are looking for more return on their money than Japan is currently offering. Here in the US, a similar game is being played. According to the Federal Reserve of the approximately $15.7 trillion in US Treasuries outstanding, $2.7 trillion is held by Social Security, $324 billion by Medicare and $1.7 trillion by the Federal Reserve or about 30% of all treasuries are held by the US Government directly or agencies of the US Government. State and local governments own about $444 billion in US Treasuries so it is safe to say that Governments of the US, state or local government or agencies controlled by these entities hold 1/3 of all Treasury notes and probably will never force the US to pay off its obligations. The American public holds about another $1 trillion through US savings bonds and indirectly about $1.8 trillion through mutual funds and pension plans. So, we can say about half of the outstanding US debt is owned by the public or government agencies, producing similarities to Japan’s circumstances. This partially explains why the US rates are so low, demand is kept artificially low by the agencies of the US government, state and local government or citizens who cannot easily abandon the US. Rates will rise when these agencies can no longer buy enough bonds to satisfy US spending demands. We see this occurring in the headlines everyday with Greece, Spain and Italy.
Sources:
http://en.wikipedia.org/wiki/List_of_countries_by_public_debt
http://www.tradingeconomics.com/bonds-list-by-country
