Why we should worry about spiralling public debt

When Adam Smith said that “there is a great deal of ruin in a nation”, he was commenting on a military defeat, but economists tend to treat it as a more general truth about the durability of nations in the face of apparently overwhelming debt. And it is true that while over-indebted companies tend to be wiped out, countries such as Argentina keep bouncing back.

Emerging economies have to pay attention to what foreign investors think, because they typically have to borrow in dollars rather than their own currency. Life is different for countries such as the US and the UK, which have been borrowing enthusiastically in their own currencies with little sign of serious concern from the bond markets. For richer countries it is possible that Dick Cheney was right when (according to former treasury secretary Paul O’Neill) he said that “Reagan proved that deficits don’t matter.” If deficits don’t matter, one can only surmise that their natural consequence – public debt – doesn’t matter either.

We had better hope that both Cheney’s claim and Adam Smith’s rumination prove to be true, because many wealthy governments are building up debt very swiftly indeed.

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