Global Debt: $300 trillion, not as bad as it sounds?

The public debt held by the federal government in the US is currently at 31.5 trillion dollars. This amount does not include the approximately 3.2 trillion dollars in state debt, $17.1 trillion dollars in household debt, or 24 trillion dollars in corporate debts. Despite being the largest and most indebted nation globally, the US represents only a fraction of the total global debt, which has surpassed 300 trillion US dollars. This total encompasses various debts, ranging from US government securities to individual credit card balances. This borrowed money is used for economic activities, whether it's investing in national infrastructure or purchasing consumer goods like a PS5. The global debt now stands at nearly three times the Global GDP, with the average person worldwide owing close to $40,000. This becomes concerning when considering that the average individual's per capita output is just over $10,000.

There is a wide range of opinions among economists and commentators regarding this situation, ranging from dismissing it as nothing to be concerned about to predicting it will have catastrophic effects on the global economy. In reality, the truth likely lies somewhere in the middle. While many sensible economists express concerns about debt levels, they believe it can be sustainable as long as certain factors remain stable. Understanding the nature of debt and its implications at individual, national, and global levels is crucial. SInce the function and behaiour of accumalated debt is different on each of these levels. The questions that arise include who the money is owed to, whether a debt load three times the Global GDP can be maintained, if there are responsible ways to reduce this debt, and what potential consequences may arise if we fail to address it.

What is Global Debt? Global debt operates differently from individual debt, where a person borrows money and repays it over time. Unlike in individual debt scenarios, there is no external entity lending money to the entire world. Economists humorously point out that we have yet to secure approval for our loan applications from Martians. While it is straightforward to understand debt when one entity owes money to another, in the global economy, debts are owed within the global economy itself. Each liability for a government, company, bank, or individual represents an asset for another government, company, bank, or individual.

When the global economy takes on debt, it is essentially borrowing from its future self rather than another entity. Simplifying Global Debt to a single loan of 300 trillion US Dollars, increasing this balance requires spending more than repaying. While this may seem irresponsible on an individual level, at a global scale, adding to this loan also adds an equal amount to an asset on the balance sheet. Increasing debt can be extremely beneficial if used to invest in projects that generate long-term value for the global economy. Economists often discuss debt in relation to GDP, a useful measure that can be misconstrued as more alarming than it truly is.

The total global debt is currently three times the total global GDP. However, debt is accumulated on a yearly basis, unlike GDP, which is a discrete measurement made annually. If an individual had a debt three times their income, it wouldn't necessarily be a major concern if it was for investments like student loans or a mortgage that would benefit them in the long run. A more accurate comparison could be global debt versus global assets, creating a global net worth concept. This perspective may provide some reassurance about the global debt situation. The total value of global assets, which includes properties, vehicles, stocks, cryptocurrencies, bonds, and loans, amounted to approximately one quadrillion US dollars in 2021. After deducting this substantial global debt, the planet's net worth is estimated at around 700 trillion US dollars. In summary, the overall financial situation seems to be more favorable than ever before.

Now, economists rarely rely on this specific number. Asset values are challenging to accurately determine because the worth of a family heirloom, for example, can vary greatly between individuals. It is complex to establish values for all assets on a global scale, so the one quadrillion US dollar estimate likely excludes many smaller, less liquid assets. Despite the challenges associated with asset values, economists can derive most of the necessary information from GDP figures. Therefore, they prioritize GDP figures, even though this might give the general public a misleading impression of global affairs. GDP represents the total economic output of a country. In theory, this can be calculated by summing up the value of all goods and services produced within the economy each year. However, this process is highly intricate as it would require placing an economist at the end of every production line, restaurant, and office in the economy, which is clearly impractical. Instead, economists focus on spending because if something is produced for the market, it will be purchased in some form. This approach is akin to a photographer working with negative images, where the details they capture are the complete opposite of what they need, but they can still use them to construct a comprehensive picture of the situation.

GDP equals the total output, which is the same as the total market demand. This demand is divided into consumption, investment, government spending, and net exports. Since we are focusing on the global economy as a whole, we can disregard net exports for now, as there is no trade with Martians, making net exports zero. If a business produces something that is not purchased by consumers, it will be classified as an investment if stored for future sale, or as consumption if discarded. The distinction is irrelevant to macroeconomists compiling GDP data. Increasing debt, all else being equal, boosts output by providing more purchasing power across these categories. Governments increase debt primarily to finance welfare or infrastructure projects without raising taxes. Households use debt for consumption, services, or investments like housing. Businesses take on debt for machinery or, more recently, share buybacks, both considered investments. Governments, businesses, and households collectively represent global debt.

Some economists may also categorize financial corporations separately because they acquire debt not for their own consumption or investments, but to generate more debt elsewhere. Regardless of the purpose of the debt, it initially boosts one or more components of GDP. However, once the debt is incurred, it must be repaid, leading households, businesses, and governments to reduce spending at an individual level to meet their repayment obligations. Although the global economy comprises billions of people, numerous businesses, and hundreds of governments, the law of large numbers mitigates this pattern but does not eradicate it entirely. The cycle of individuals accumulating debt to stimulate the economy, followed by a period of sluggishness when the debt is repaid, is not random. When there is optimism about the future, high employment rates, and favorable global conditions, people tend to take on more debt to enhance consumer spending and investment. As debt levels escalate and individuals shift focus to repayment rather than further consumption, investment declines, impacting outputs on a global scale. This illustrates how we essentially borrow from the future, rather than an external entity, when discussing global debt levels. Termed as a debt cycle, this phenomenon explains why the economy experiences natural cycles of prosperity and downturns approximately every decade, even without external disruptions.

In this cycle, governments should aim to counterbalance the actions of consumers and businesses who are increasing debt to boost consumption and investment. When debt levels are high, governments should increase taxes and reduce spending to build up reserves and moderate the economic activity. Conversely, when everyone is focused on debt repayment, the government should lower taxes and boost spending to prevent the economy from coming to a standstill, known as counter-cyclical fiscal policy. Governments typically excel at stimulating the economy during downturns in the debt cycle or due to external shocks like the pandemic. However, they struggle to increase taxes and reduce spending in times of economic prosperity due to lack of political popularity.

Government Debt

In recent decades, governments worldwide have been increasingly accumulating debt at rates comparable to or even surpassing those of businesses and individuals. However, this may not necessarily be negative. If debt is utilized to enhance a country's productive capacity and generate more value than the debt itself, it can be beneficial. By ensuring that the current wealth of the world surpasses what it leaves behind, future generations can also benefit. Governments can achieve this by investing in infrastructure and education to boost productivity. While some government spending may be directed towards humanitarian projects, the majority focuses on initiatives like rail lines and public roads that serve the public good. These projects often do not yield profits in the traditional sense as they are not directly monetized, but advanced economies typically conduct economic benefit assessments on major projects to ensure they generate more value over their lifetimes than their costs. For instance, if a rail line can transport goods and people more efficiently than existing options, it can lead to increased productivity for businesses and easier commutes for individuals, resulting in higher tax revenues for the government to finance future projects. Similarly, economic analyses are conducted on government spending related to defense and social programs to determine their overall output and tax contribution. When governments accumulate debt to finance projects that do not yield positive economic returns, they risk financial insolvency in the long run. Despite occasional misdirected spending due to political factors, government debt becomes problematic when it fails to produce economic benefits. Many governments worldwide implemented stimulus measures during the pandemic to prevent an economic collapse in the short term, although these policies may not significantly contribute to long-term economic growth.

The breakdown of GDP is crucial for households and businesses since they contribute to consumption and investment. In a theoretical economy, production can result in items with value, such as a plate of pasta or a pot. However, the pot retains its value and becomes part of the roughly 1 quadrillion USD worth of global assets, while the pasta loses its value once consumed. Debt incurred to acquire assets is generally considered beneficial, as it can generate future economic value to repay the debt. Conversely, debt for consumption is viewed negatively, as it does not generate future economic value like an asset would. Most global debt is used for investment purchases, which contributes to the growth of the global economy's asset value. In essence, having a quadrillion dollars in capital and 300 billion dollars in debt is more advantageous for the global economy than having only 700 billion dollars in capital. The surplus capital can lead to improved job opportunities, new industries, technological advancements, and overall economic growth in the long run.

Global net worth heavily relies on ensuring that investments are directed towards assets that can boost productivity. Over the past 50 years, global net worth as a percentage of GDP has increased by around 50%, with a 25% rise in just the last two decades. During this period, GDP has grown more than tenfold compared to 1970. While this may seem positive, it actually indicates that investments in the trillion-dollar worth of assets are now 50% less efficient than they were half a century ago. This trend is particularly evident in advanced economies, where wealth has surged at a much faster pace than output, leading to a rise in debt. However, the actual value of the economy is increasing at a much quicker rate. The value of assets in the global economy's balance sheet is ultimately determined by supply and demand dynamics, meaning that its worth is contingent on what someone is willing to pay for it. The primary risk associated with higher debt levels is that in times of crisis, the market value of assets can plummet faster than the debt itself. Debt only truly devalues in the long run if it becomes irrecoverable, such as through forgiveness or if the borrower defaults. Viewing global debt through the lens of risk reveals its dual nature: it can enhance prosperity during good times by enabling rapid economic expansion and project development that would otherwise be unfeasible without borrowing, but it can exacerbate downturns as debt holders demand repayment regardless of the circumstances. Presently, global debt levels are elevated relative to output but are lower compared to historical levels when measured against the total wealth of the world.

It is beneficial when wealth is utilized to enhance output and opportunities for the global economy, which unfortunately has not been the case. In recent decades, non-productive assets, mainly real estate, have experienced significant appreciation. The total value of real estate worldwide is approximately 350 trillion US Dollars, with land accounting for about 250 trillion, equivalent to 2.5 times Global GDP, and the remaining 100 trillion comprising the physical buildings on that land. Investing in researching new technologies to boost production efficiency can lead to increased output over time, allowing for more reinvestment or consumption. Conversely, investing in land does not alter its intrinsic nature but simply drives up its value, making one of the production factors, land, labor, and capital, less accessible and thereby reducing output. Moreover, real estate investment often diverts resources from potentially more productive investments. Many developing countries are currently facing debt challenges due to stalled growth, making it difficult and costly to secure financing. It is safer for debt to be directed towards assets like real estate in advanced economies rather than towards factories in developing nations. Globally, it would be more beneficial if debt were not used to fuel speculation on unproductive assets.

Ownership of Global Debt

When examining debt at a national level, it is crucial to inquire about the entities to which we are indebted. The vast majority, 95% of the world's total wealth, which includes the 300 billion USD debt, is held by households, while the remaining five percent is owed by governments. Although businesses play a significant role in generating economic value and own assets, these companies are ultimately owned by individuals, either directly through share ownership or indirectly through retirement savings plans. The five percent of global net worth under government control consists of foreign currency reserves, public real estate, state-owned enterprises, sovereign wealth funds, and, in rare instances, loans issued directly by the government.

Many governments, such as the US federal government, have negative wealth. China possesses the largest portion of global government wealth, primarily in the form of foreign currency reserves and land holdings. China is also a unique case where the government provides loans directly to other countries, although this strategy has not been notably successful. While global debt may not be a critical issue, the purposes for which the debt is utilized could be problematic. While it may seem that we owe this debt to ourselves on a global scale, this is not the case on other scales. The average net worth of an individual on Earth is approximately 90,000 US dollars, but this average is heavily influenced by a small number of extremely wealthy individuals.