Govt. debt on 'explosive path'

Mon, 11 Oct Pre-Open

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Indian markets closed lower by 1% last week. Maybe taking a breather after going from around 16,000 levels to 20,000 in really quick time. The US markets though continued with their stellar run. It rose around 1.6% and that too after posting the biggest ever gains in the month of September since 1939.

Gold too joined in the party and closed the week 2% higher. However, isn't this strange? Both gold and the US stocks rising at the same time. Typically, when one of these asset classes rises, the other is not supposed to move in perfect lockstep.

What gives? The US stocks may have had its best September since 1939 but the economy still seems to be moving in fits and starts. So much so that the US Fed is contemplating another round of asset purchases. That is perhaps another trillion dollar going down the drain. Looks like the US printing presses will not be able to go on a long vacation any time soon.

In view of this, the only real gains seem to be coming from the yellow metal and not the US stocks. Sure, they could rise and go on to make new highs but those highs will be denominated in perhaps a significantly devalued currency.

That the threat of a significant devaluation looms large has also been corroborated by S&P's, one of the world's leading rating agencies. The agency has predicted that based on current fiscal policies, median net debt as a percentage of gross domestic product in 49 economies accounting for more than two-thirds of the world's population will rise to 245 percent by 2050. It should be noted that the agency had made a similar forecast in 2007. But at that time, the number that was doing the rounds was 148%. That S&P had to scale it up significantly in a short span of three years underlines the severity of the crisis.

Little wonder, the agency has dubbed the public debt in some economies as being on an 'explosive path'. Of course, a good part of the debt has been accumulated in order to fight the financial crisis. However, an ageing population's role in eroding government finances cannot be neglected as well.

One of the safe ways in which the debt can be paid back is through increased productivity. However, as a nation's population ages, productivity gains, if any, are mediocre at best. Infact, in most cases, productivity actually come down, thus putting further pressure on finances.

Take the case of Japan. It is estimated that spending pressure will push up government debt to about 750 percent of economic output in Japan by 2050. Indeed a very sorry state of affairs. Although the US is not in the same boat right now, too much of debt financed spending could well take it to a point of no return. And it is this evil that the US policymakers have to strongly guard against.