How Debt Limits A Country's Options

Debt is an evergreen topic in financial writing, whether it involves the perks and perils of individual consumer debt, corporate debt or national debt. While the national debt of the United States has never really ever slipped out of the national dialogue, events over the past decade have intensified the discussion.

Tax cuts, spending on multiple wars and a major recession induced by the collapse of the housing market have combined to spike the U.S. debt burden, while sovereign debt issues have all but blown up the economies of Southern Europe (not to mention the banks, insurance companies and other investors who bought that debt). What's more, debt has started to increasingly factor into bilateral and multilateral political squabbles. While debt is fundamentally necessary to the operation of a national government, it is increasingly clear that debt can be limiting and dangerous.

Loss of Discretion
There may be nothing more central to a country's independence than the freedom to allocate its resources more or less however the populace wishes. High levels of debt directly threaten the ability of a government to control its own budget priorities.

Debt has to be repaid; while collectors may not show up at a nation's borders, a failure to repay prior debts will typically, at a minimum, result in significantly higher borrowing costs, and the availability of credit may vanish altogether. What this means, then, is that interest payments on debt are basically non-negotiable spending items. The U.S. faces this problem in 2012.

Interest on the national debt is likely to take up more than 6% of the 2013 federal budget. That's a quarter-trillion dollars that could be spent elsewhere or returned to citizens as lower tax rates. What's more, some readers may agree that the actual figure is higher than 6% - Social Security benefit obligations are not debts like T-bills or bonds, but they are balance sheet liabilities and many analysts argue that pension benefits (which are what Social Security benefits basically are), should be included in corporate liquidity analysis.

Going beyond year-to-year budgets, high debt loads also limit a nation's policy options when it comes to stimulating growth or neutralizing economic volatility. Countries like the U.S. and Japan really do not have the debt capacity to launch a second "New Deal" to stimulate employment and/or GDP growth. Likewise, debt-fueled spending risks over-stimulating the economy in the short-term at the cost of future growth, not to mention that it incentivizes the government to keep interest rates low (as high rates worsen the debt burden).

Loss of Sovereignty
Countries that rely on other nations to buy their debt run a risk of becoming beholden to their creditors and having to trade sovereignty for liquidity. Although it probably seems unthinkable today, there was a time when countries would actually go to war and seize territory over debts. The well-known Mexican-American holiday Cinco de Mayo actually doesn't celebrate Mexican independence, but rather a battlefield success over France in an invasion launched by France over suspended interest payments.

Actual military action over debt may no longer be tenable, but that doesn't mean that debt cannot be a tool of political influence and power. In disputes over trade, intellectual property and human rights, China has frequently threatened to reduce or cease purchases of U.S. debt - an act that would very likely drive up rates for the U.S. government. China made a similar threat to Japan over territorial disputes related to the Senkaku/Diaoyu islands in the East China Sea.

Readers also need only look at what has happened to Greece and Spain to see how excessive debt imperils national sovereignty. Due to its inability to pay its debts and a mutual desire to keep Greece in the eurozone, Greece has had to accept various external conditions from the EU regarding its budget and national economic policies in exchange for forbearance and additional capital. Since then, unemployment has soared, civil unrest has grown and Greece is effectively no longer in charge of its own economic future.

When it comes to the issue of debt and sovereignty there is most definitely a distinction between internally and externally owned debt. In 2011, Japan's debt amounts to almost triple its GDP, with more than 90% of it being domestically-owned. So while China's threats are relevant given that it is the largest foreign owner of Japanese debt (about 20%), the absolute amount of influence it can wield is pretty modest. On the other hand, the majority of Greece's national debt was owned by non-Greeks, making the Greek government much more beholden to the goodwill and cooperation of other countries.

This domestic/foreign dichotomy does create a host of problems pertaining to sovereignty. Do German banks and/or government officials now have more say in Greece's economy policies than Greek voters? Likewise, do fears of debt downgrades (or unsustainable borrowing costs) push countries to shape national policies around the decisions of rating agencies? At a minimum, it does lead to questions as to whether a government is prioritizing foreigners (and/or wealthy citizens) over the interests of the average citizen, and it's certainly true that debt repayment strengthens those foreign creditors holding the debt.

Of course, it's not as though questions of sovereignty are new. The entire euro system is an explicit compromise of sovereignty - member governments surrendered monetary policy control in exchange for what they expected to be better overall trade conditions and cheaper access to debt.

Loss of Growth
National debt also needs to be assessed in the context of what it can do to a country's long-term growth capacity. When a government borrows money, it is basically (if not literally) borrowing growth and tax revenue from the future and spending it today. Said differently, national debt robs future generations of growth for the benefit of the current generation.

Historically, when that spending has gone towards projects with long productive lives (like roads, bridges or schools), it has worked out, but when the money is used for transfer payments, unneeded infrastructure (as in the case of Japan), or non-productive activities like war, the outcomes are less positive. Most economists accept that post-World War I austerity probably led to World War II. Nations felt pressure to quickly repay debts accumulated during the war, but higher interest rates led to lower economic output, which in turn led to more protectionism.

There is always a trade-off between taxes, inflation and spending when it comes to debt repayment. That debt has to get repaid eventually, and each choice has consequences. Raising taxes reduces economic growth and tends to encourage corruption and economic inequality. Stoking inflation reduces the present value of money and harms savers. Curtailing government spending reduces growth and can be highly destabilizing to an economy in the short-term.

Debt also imperils growth through the crowding-out effect. Sovereign debt issuance sucks up capital (savings) that corporations or individuals could use for their own purposes. Because the government is always the largest hog at the trough, other capital-seekers have to pay more for capital, and worthwhile value-adding projects may be abandoned or delayed because of the higher cost of capital. Along similar lines, because governments usually get a preferential price for capital and don't operate on a net present value basis (projects are launched more for political or social reasons than economic return), they can effectively push companies and private citizens out of markets.

Relevance to Individuals
While individuals and families cannot run their affairs like governments do (they can't run an indefinite budget deficit, and it's not a good idea to declare war on a neighbor), there are nevertheless lessons here for individuals.

Countries don't have to worry about having national assets repossessed, but people do. Individual debt can create problems that spiral out of control and destroy a person's ability to build assets or savings, leaving that person in a situation where he or she is forever working for the bank or other creditors and not for themselves.

Most importantly, individual debt limits options and flexibility. Many people have been unable to seek better jobs outside their communities because an underwater mortgage prevents them from moving. Likewise, many people cannot leave unsatisfying jobs because they are dependent on that weekly or monthly paycheck. While people free of debt can live their lives with a great deal of freedom, individuals buried under debt will find their options perpetually limited by what their budget, creditors and credit rating allow them to do.

The Bottom Line
Debt is neither good nor bad in and of itself. Just as a life-saving drug can be fatal at excessively high doses, so too can debt cause great harm when taken to excess. When it comes to national governments, debt is alluring, addictive and dangerous. Debt allows politicians and citizens to live beyond their means; pushing hard decisions down the road and allowing the government to buy goodwill through largesse. At the same time, however, it is almost impossible to contemplate large projects without debt, nor to smooth over the minor ups and downs of the economic cycle and the timing differences between tax receipts and spending demands.

As a result, governments have no choice but to learn to live with debt and use it responsibly. Living with debt carries responsibilities, however, and national governments would do well to realize that going too far down the road of debt-fueled spending risks their own freedom of choice, sovereignty and long-term growth potential.

More From Investopedia


Get stories like this on the Yahoo app and discover more every day.
Download it now.
  • Apple Said to Plan IPhone for Japan With Tap-to-Pay for Subways Bloomberg - 33 minutes ago

    A future iPhone will include technology called FeliCa, a mobile tap-to-pay standard in Japan developed by Sony Corp., according to people familiar with the matter. The FeliCa chip will let customers in Japan store their public bus and train passes … More »

  • Asian Stock Futures Mixed Before Jackson Hole With Oil Above $47 Bloomberg - 39 minutes ago

    Contracts on equity gauges in Japan and South Korea retreated, while those on indexes in Australia and Hong Kong foreshadowed gains following a second day of losses in U.S. shares. Japan’s currency headed for its first weekly drop versus the dollar … More »

  • Air New Zealand flies to record profit
    Air New Zealand flies to record profit AFP News - 1 hour 27 minutes ago

    Air New Zealand announced an operating windfall Friday, posting a record NZ$463 million (US338.01 million) after-tax profit, up 42 percent, as the country benefitted from a tourist boom. It was "the best result ever" in the 76-year history of the … More »

  • European, US equities dip awaiting Fed
    European, US equities dip awaiting Fed AFP News - 1 hour 36 minutes ago

    US and European stocks slid Thursday in choppy trade as investors awaited a key speech by Federal Reserve Chair Janet Yellen that many hope will shed light on the Fed's policy stance. With global economic growth in a slump and the US economy not … More »

  • Dollar General, Dollar Tree report weak sales growth
    Dollar General, Dollar Tree report weak sales growth Associated Press - 1 hour 46 minutes ago

    Discount-store rivals Dollar General and Dollar Tree reported weaker-than-expected sales figures Thursday, as struggling lower-income shoppers spent less at their stores. Shares of both companies fell ... … More »

  • Euro rises as markets tread water before Yellen speech AFP - 2 hours 0 minutes ago

    The euro rose slightly on Thursday against the dollar, the yen and the British pound while investors awaited Friday's keynote address from US Fed chief Janet Yellen. Towards 2100 GMT, the euro was at $1.1281, ... … More »

  • Vegas stadium backers down to 2 top sites for Raiders
    Vegas stadium backers down to 2 top sites for Raiders Associated Press - 2 hours 14 minutes ago

    Backers of a proposed NFL stadium said they've whittled their list to two sites just west of the Las Vegas Strip and refuse to accept any less than $750 million in public funding toward the project, which ... … More »

  • Oil up on U.S.-Iran scare, dollar; Saudi output stance cuts gains
    Oil up on U.S.-Iran scare, dollar; Saudi output stance cuts gains Reuters - 2 hours 24 minutes ago

    Oil prices rose 1 percent on Thursday on U.S.-Iran military tensions in the Gulf and speculation the dollar will fall on a monetary policy speech due from the U.S. Federal Reserve chair. The market, however, gave back some gains after an interview … More »

  • Health care sector pulls stock market lower again
    Health care sector pulls stock market lower again Associated Press - 2 hours 29 minutes ago

    Stocks fell in light trading for a second day on Thursday as investors sifted through a mix of earnings reports. The major indexes wavered between small gains and losses in the morning, then moved lower ... … More »

  • Antrim reports 2Q loss Associated Press - 2 hours 30 minutes ago

    On a per-share basis, the Calgary, Alberta-based company said it had a loss of 1 cent. Earnings, adjusted for asset impairment costs, came to less than 1 cent on a per-share basis. In the final minutes ... … More »

  • Oil up on U.S.-Iran scare, dlr; Saudi output stance cuts gains
    Oil up on U.S.-Iran scare, dlr; Saudi output stance cuts gains Reuters - 2 hours 32 minutes ago

    Oil prices rose 1 percent on Thursday on U.S.-Iran military tensions in the Gulf and speculation the dollar will fall on a monetary policy speech due from the U.S. Federal Reserve chair. The market, however, gave back some gains after an interview … More »

  • How the Dow Jones industrial average fared on Thursday Associated Press - 2 hours 37 minutes ago

    Stocks closed lower on Thursday, led by declines in health-care companies as investors worry about a backlash in Washington against recent price increases for key drugs. A few retailers reported disappointing ... … More »

  • Earliest China Tea Leaves Signal Weakening Business Sentiment Bloomberg - 2 hours 44 minutes ago

    China’s policy makers have refrained from across-the-board monetary stimulus in recent months and switched to reining in risks emerging in the bond and property markets. “Both domestic and export demand remained sluggish, and unfavorable weather … More »

  • China’s Biggest Cities Said to Plan Curbs to Tame Property Boom Bloomberg - 2 hours 44 minutes ago

    Beijing and Tianjin are also contemplating new measures to rein in prices, according to three of the people. China’s top leaders, after a Politburo meeting led by President Xi Jinping last month, pledged to curb asset bubbles amid a renewed focus … More »

  • Hong Kong Regulator Wants a Tighter Grip on IPOs in Blow to HKEx Bloomberg - 2 hours 44 minutes ago

    While the Securities and Futures Commission and Hong Kong Exchanges & Clearing Ltd. have stated publicly that they’re working together on a new regime to approve IPOs, brokers and lawmakers say the proposal would shift power toward the regulator. … More »

  • Zayo Group reports 4Q loss Associated Press - 2 hours 46 minutes ago

    On a per-share basis, the Boulder, Colorado-based company said it had a loss of 13 cents. Earnings, adjusted to extinguish debt, were 1 cent per share. The results met Wall Street expectations. The average ... … More »

  • Exclusive - Exchange Bats eyes new EU base outside London after Brexit
    Exclusive - Exchange Bats eyes new EU base outside London after Brexit Reuters - 2 hours 48 minutes ago

    Europe's biggest stock exchange Bats Europe could open a base outside London following Brexit, its head told Reuters, voicing doubts about whether the City of London would secure sufficient access to the European market. Bats Europe accounts for … More »

  • Kerry arrives in Geneva for Syria talks with Lavrov
    Kerry arrives in Geneva for Syria talks with Lavrov AFP News - 2 hours 49 minutes ago

    US Secretary of State John Kerry arrived in Geneva late Thursday for a meeting with his Russian counterpart Sergei Lavrov to discuss the situation in war-ravaged Syria. Earlier Thursday, the UN special envoy for Syria Staffan de Mistura described … More »

  • US stocks edge lower ahead of Yellen speech AFP - 2 hours 55 minutes ago

    US stocks finished lower on Thursday ahead of a much-awaited speech by Federal Reserve Chair Janet Yellen that analysts hope will clarify the Fed's policy stance. Health care and pharmaceutical shares ... … More »

  • Hedge Funds Suddenly Winning on China’s Most Dangerous Short (1) Bloomberg - 3 hours ago

    After suffering through a 953 percent rally in shares of Yirendai Ltd. since mid-February, hedge funds and other bearish speculators were rewarded over the past four days as the Chinese peer-to-peer lender sank 35 percent in U.S. trading. Holding … More »

  • Net 1 UEPS posts 4Q profit Associated Press - 3 hours ago

    The Johannesburg-based company said it had profit of 48 cents per share. Earnings, adjusted for one-time gains and costs, came to 51 cents per share. The payments company posted revenue of $151.3 million ... … More »

  • Vivendi keeps negotiating with Mediaset despite public spat - sources
    Vivendi keeps negotiating with Mediaset despite public spat - sources Reuters - 3 hours ago

    PARIS/MILAN (Reuters) - French media giant Vivendi (VIV.PA) and Italian broadcaster Mediaset (MS.MI) are negotiating behind closed doors to forge an alternative partnership despite an ongoing war of words over a disputed pay-tv deal, three sources … More »

  • QAD Inc. posts 2Q profit Associated Press - 3 hours ago

    On a per-share basis, the Santa Barbara, California-based company said it had net income of 3 cents. Earnings, adjusted for stock option expense and amortization costs, were 15 cents per share. The manufacturing ... … More »

  • QAD posts 2Q profit Associated Press - 3 hours ago

    On a per-share basis, the Santa Barbara, California-based company said it had profit of 3 cents. Earnings, adjusted for stock option expense and amortization costs, were 15 cents per share. The enterprise ... … More »

  • Wall St. slips on healthcare, consumer names; Fed eyed
    Wall St. slips on healthcare, consumer names; Fed eyed Reuters - 3 hours ago

    U.S. stocks were modestly lower on Thursday, weighed down by a drop in healthcare and consumer names, while financials advanced slightly after two more Federal Reserve officials pushed the case for a rate hike. Healthcare stocks, down 0.8 percent, … More »

Recent Quotes
Symbol Price Change % Chg 
Your most recently viewed tickers will automatically show up here if you type a ticker in the "Enter symbol/company" at the bottom of this module.
You need to enable your browser cookies to view your most recent quotes.
to view quotes in your portfolios.


  • Most Actives
    Most Actives
    NamePriceChange% Chg
  • % Gainers
    % Gainers
    NamePriceChange% Chg
  • % Losers
    % Losers
    NamePriceChange% Chg

Market Data

  • Currencies
    NamePriceChange% Chg
  • Commodities
    NamePriceChange% Chg
  • Bonds
    TreasuryYield (%)Yield Change