Adham Abdel Moneim Due: October 20 th #:100865929 ECON 3820

Debt Briefing Note

Issue: The purpose of this note is to inform the Minister that there is a concern on the drastic increase in advanced economies

public debt, which may hamper growth. This raises doubt about whether advanced economies can sustain a debt free future for future generations.

Public debt places a heavy burden on future generations. With the increasing debt of our generation, how long can global economies function while being in debt, and how can old

debt be paid off without recurring new debt?Background/Situation Analysis:

The points discussed below outline past events and their impacts on the economy:1. 2008 was seen as a clear global recession and debt crisis, which was very unlikely to recover from for at least 2 years.2. After the crisis, capital injections and interest rates by the government were cut down to help borrowers.3. With the US recession and debt crisis there was a dramatic decline in economic growth worldwide.4. Germany experienced a 14.4% rate of decline, with Japans being 15.3%, UK at 7.4%, 8% in Euro area, and 21.3% in Mexico.5. By 2009 the Arab world experienced a $3 trillion loss due to global affect of American debt crisis.6. Fall in Foreign investment in the Middle East’s economies were due to the fall in demand for oil.7. IMF slashed its 2012 forecasts for both countries saying Italy faces a 2.2% contraction, and Spain a 1.7% fall.8. IMF sees Global growth slowing down but not collapsing.9. In 1973 a secret agreement was entered where OPEC countries would sell oil only in dollars.

Economic Analysis: The Key to eliminating debt is economic growth. On the other hand, with increased borrowing this creates higher interest

rates. Also, a lower investment would lower economic growth. Government borrowing may crowd out private investment, which leads to a further lowering of economic growth forecasts.

As a result, the Canadian government would not be able to control cost anymore. The level of debt alone is not the only issue that must be addressed. The type of debt is important in determining debt

sustainability. Perfect examples are the current structural deficits, where even with full employment, government revenue will not cover government expenses. This case exists in many other nations.

Government extended fiscal support to troubled banks to stabilize the financial system, and enacted many large packages to boost output, demand, and employment. This resulting in lower tax receipts, and increased government spending on programs such as employment insurance. All of these factors combined contributed to the vast increase in government debt among advanced industrialised countries.

With either option selection there should be a cost benefit analysis by the government to determine whether the benefits of option outweigh costs for implementing the option.

For each option the total cost should be divided by its effectiveness to complete a cost effectiveness analysis. On the other hand, the cost benefit analysis includes an extra step by looking at the total benefits minus total cost to show the net benefits for each option. Finally comparing all options to find the optimal option.

Economic theory tells us that while risk increases there will be a higher premium to compensate for that risk. While governments take on debt, their ability to pay their existing debt becomes harder and increases the risk for the

investor. As a result, investors will increase interest rates on borrowing to compensate for risk. Having a higher interest rate means a higher cost of borrowing for future. On the other hand, governments that have

significant borrowing crowds out investment and decreases saving. This reduces private investment spending as a result of a supply of funds increase, with no change in demand for loanable funds, hence increasing interest rates.

There are many positive benefits to a lower public debt for an economy. This allows governments to borrow at lower interest rates, which means spending less on budget of interest payments. This allows for future growth and stability. If we continue with this consistent increase in debt levels there will be negative impacts on investment and economic growth in future.

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Adham Abdel Moneim Due: October 20 th #:100865929 ECON 3820

China and India’s weaker momentum had impact on regional economies. Also growth in Asian-pacific region stowed, while advanced economy recover for recession setbacks. Asia’s GDP growth as a whole fell to lowest rate since 2008 financial crisis.

There is an important need for a double step approach to balance the budget over a long term, while promoting growth policies to stimulate economy in the short run.

Risk Analysis: The Key risks alongside their consequences are summed up below:1. High debt burdens the government’s ability to fund future programs and services while debt expenses increase.2. With high debt burden, government’s may not be able to raise necessary funds to respond to a crisis.3. Borrowing today shifts the burden of paying for current spending to future generations.4. Increased debt levels hamper growth and government flexibility to respond to a crisis.5. Changing investor’s perception on countries economic stability and ability to repay loan increases risk thus increases

interest rates, and limits a nations access to credit markets.

Option Analysis: The research papers present five policy options, 1. Debt restructuring, 2. Inflation, 3. Fiscal consolidation, 4. Fiscal

repression and 5. Growth. These policies are explained in depth below in the order presented above:1. Debt restructuring is basically changing borrowing terms to ease the repayment burden. Owner would receive less than

originally promised. This may limit need for austerity measures that impact the electorate. This may also increase future borrowing costs, and is also difficult to reach an agreement with all creditors. Finally this may make the investor sceptical about giving out loan in the first place.

2. Inflation is basically the reduction of the real value of debt. This is only viable when domestic creditors hold the majority of debt. Inflation will raise borrowing costs in future, but must surprise investors otherwise the risk of inflation would be included in the borrowing cost. Inflation also is a problem in the long run and may lead to insufficient saving, reduced investments, and shortage of goods. Also Inflation may be difficult to control therefore very risky, and requires investment in innovation to increase productivity.

3. Fiscal consolidation is basically cutting government spending and/or increasing tax revenue. This may lower growth in short term resulting from reduced aggregate demand. If economic activity decreases more than the debt, this may increase the debt to GDP ratio. Finally this can increase investor confidence and lower borrowing costs for the government, but may be difficult politically to implement.

4. Fiscal repression is basically the use of government policy to force domestic investors to buy or hold government bonds at low interest rates. This reduces domestic saving which may cause capital flight. Fiscal repression was used successfully in the past by several nations after WWII.

5. Growth actually lowers the size of debt relative to the size of the economy. This may be difficult to pursue without an expansionary fiscal policy, and is highly uncertain in the long-term. Shown throughout history economies with high levels of debt will have difficulty in creating economic growth. This can be supported by many microeconomic reforms such as liberalizing trade policy, removing barriers to labour mobility, and privatizing government organizations.

Assessment of the Proposal: The main strengths of this proposal in my point of view are listed below:1. Overall this research paper was very informative, and adequately describes the current situation and the different advanced

strategies used for debt reduction. 2. The paper was very consistent and showed how many advanced economy governments have embarked on fiscal austerity

programs. 3. The research paper clearly explained how having no way to force a government that has defaulted on its debt, to abide by

another countries court ruling to repay the loan is very problematic. The paper clearly explains the reasons to why governments default and the overall impact it has.

4. A main point the paper explains is how some governments may also underreport data. This shows that governments do not account properly for their entire financial obligation, and that if these hidden debts were included the estimates for government debts would be substantially higher. Perfect example of this is the sustainability of Greece’s debt.

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Adham Abdel Moneim Due: October 20 th #:100865929 ECON 3820

5. Proposal also showed emerging markets are vulnerable to changes in the exchange rate after the depression can cause a substantial increase of debt.

6. Finally paper explains perfectly how governments address big levels of debt with the strategies explained in the option analysis section above.

The main weaknesses of this proposal in my point of view are listed below:1. Throughout the paper there was very little attention paid to any of these mechanics of implementing any of the suggested

strategies.2. Also very little attention was paid to address the likelihood of the options being implemented in a democracy that has

competing interests and views. 3. The paper did not properly address the costs to the various groups in the economy. Also policy options considered within

each option that may reduce the burden of debt repayment in the short, medium and long-term need to be discussed. 4. Finally debt can be a political issue as much as an economic issue for advanced economies. As a result, it is very important

for the paper to discuss who bears the burden of debt repayment in the short, medium, and long term.

Personal Recommendations:

As shown above, there is not a single option, activity, or policy that will ease the debt burden in advanced economies. Therefore to truly help reduce debt, and help sustain our future generations debt free future there must be a combination of options that continue to promote economic growth, while limiting the expansion of debt.

1. To start off creating an integrated program like the EU to increase accountability. This integrated system would decrease the chances of underreporting discussed in the assed proposal. This would also decrease countries refusal to abide by another countries court ruling to repay loan, which was one of the main issues outlined in the assessed proposal.

2. The creation of G20 model that gets together to discuss global and national debt would create transparency. This would put emphasis on treating the true problems facing countries. This would also minimize the problem of underreporting (ex. Greece)

3. It is also crucial to create standardized worldwide rules for reporting full debt that can be regulated by the IMF, which will decrease the occurrence of Defaults. As a result proper debt levels will be provided, thus the sufficient policies needed to promote economic growth and limit expansion of debt will be enacted. All countries are in debt for similar but different reasons; therefore each country will need to pass different policies relative to each other, which can be effective through transparency.

4. Fiscal repression could be very effective to help promote economic growth without recurring new debt, or having to crowd out. As explained above fiscal repression is basically the use of government policy to force domestic investors to buy or hold government bonds at low interest rates. This would increase domestic investment, which promotes economic growth. Fiscal repression would be very effective if implemented with qualitative easing strategies to keep rates low on longer bonds. This would provide an incentive for domestic investors to buy bonds with a longer time to maturity. A combination of these two would work efficiently in a time of debt. Typically low real interest rates would normally reduce savings, move consumption from future years into the present, and generate stronger economic growth.

5. Implement Fiscal consolidation to by cutting government spending. I suggest that this could be done selectively depending on whether funded programs are achieving desired results or not. Governments should stop the funded programs if not effective in making money, or achieving desired results. This would put a cap on debt before it gets out of hand, and gives priority to investments that promote economic growth. For this to be done there must be a regulatory service to consistently check on borrowers, to ensure that they are achieving promised/desired results.

As stated before there is not a single option, activity, or policy that will ease the debt burden in advanced economies. A combination of the policies and strategies shown above, will help ensure that debt is treated in the present rather than placing the burden on future generations. This will also help payoff debt without incurring new debt, and promote a sustainable debt free outlook for our future generations.

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