Sovereign debt


Sovereign debt, also known as ‘Government Debt’, can be either internal or external and is the debt owed by a nation to one or several other nations. It is used as a means to finance government operations. Borrowing is usually done by issuing securities or by a government issuing bonds in a foreign currency, which will then be sold to external investors. This may occur on a short or long term basis, whereby a short term debt is generally considered to be for a year or less, and a long term for over ten years.
Due to state sovereignty, the creditor does not have the security of a binding contract to force a debtor to repay the loan as there is no higher authority to impose sanctions on the debtor’s behaviour. Instead, the creditor must rely on the credibility and trustworthiness of the debtor when deciding whether or not to loan to them. The reputation of the debtor, however, is incredibly important to them as the greater the more other nations trust them, the more likely they will be to loan to them in future times of need. Therefore, when necessary, it is more worthwhile for a nation to renegotiate the terms of the loan than to simply default on it. In renegotiating, the nations involved may agree to reschedule the repayment dates or reduce the interest rate of the loan in order to allow the debtor a greater chance of meeting their obligations.
By and large, upon receiving the loan from an outside source, the loans will go straight into the nation’s economy; thereby boosting economic growth as domestic businesses will need to produce more in order to meet the new demands. As such, though sovereign debt is an indication of how much more a government spends than it produces, the percentage of debt a country is in does not necessarily correlate with the level of economic danger the country faces. This is evident in the cases of Japan and Greece who both found themselves in great levels of debt, but have so far had very different consequences.
jap gre.jpg
This image shows the steady increase of debt in Japan since 1990, whilst Greece’s debt increased dramatically after the Global Financial Crisis in 2007.

Over the past few decades, Japan’s national spending has greatly exceeded that of its economic output, with its level of sovereign debt increasing dramatically. As of 2002, Japan was seen to be in public debt by 144%, which corresponds to roughly $5 trillion (or €3.8 trillion). In comparison, as of 2013, Japan’s level of public debt has increased to 225%, which roughly equals $12.5 trillion (or €9.5 trillion). In order to fund government spending, Japan has used an internal method of borrowing by mostly relying on domestic bondholders in order to fund government expenditure. When borrowing from external sources, it is seen to have very low interest rates considering its level of debt. Though some claim that Japan will suffer dramatically and descend into hyperinflation if it reaches a point where it can no longer rely on domestic funding, it is currently one of the largest economies in the world and has maintained a fairly stable and healthy unemployment rate (currently at 4.6%), despite natural disasters and previous economic troubles (e.g. the stock market crash in 1990).
In comparison, Greece’s level of debt has increased from 103% in 2002 to 158% in 2013. Whilst this is technically a lower percentage of debt, Greece’s high levels of unemployment (19.2%) and excessive use of external funding with high interest rates have led to debt defaults. This dire situation has resulted in defaults and the need for various European Nation members and the IMF to bailout the country twice and the need for Greece to implement severe austerity measures. According to the bailout plan, the IMF also demands that Greece privatise government assets by 2015, and implement structural reforms in order to increase their growth prospective.

Sources
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