Off the Charts: Debt Numbers Alone Tell Little About Fiscal Stability

But looking only at government debt totals can provide a misleading picture of a country’s fiscal situation, as can be seen from the accompanying tables showing both government and private sector debt as a percentage of gross domestic product for eight members of the euro zone. The eight include the largest countries and those that have run into severe problems.

In 2007, before the credit crisis hit, an analysis of government debt would have shown that Ireland was by far the most fiscally conservative of the countries. Its net government debt — a figure that deducts government financial assets like gold and foreign exchange reserves from the money owed by the government — stood at just 11 percent of G.D.P.

By contrast, Germany appeared to be in the middle of the pack and Italy was among the most indebted of the group.

Yet Ireland was slated to become one of the first casualties of the credit crisis, and is now among the most heavily indebted. Germany is doing just fine. Italian debt has risen only slowly. The I.M.F. forecasts that Ireland’s debt-to-G.D.P. ratio will be greater than that of Italy by 2013.

It turned out that what mattered most in Ireland was private sector debt. As the charts show, debts of households and nonfinancial corporations then amounted to 241 percent of G.D.P., the highest of any country in the group.

“In Ireland, as in Spain, the government paid down debt while private sector grew,” said Rebecca Wilder, an economist and money manager whose blog at the Roubini Global Economics Web site highlighted the figures this week. She was referring to trends in the early 2000s, before the crisis hit.

Much of the Irish debt had been run up in connection with a real estate boom that turned to bust, destroying the balance sheets of banks. The government rescued the banks, and wound up broke. Spain has done better, but it, too, has been badly hurt by the results of a real estate bust.

The story was completely different in the Netherlands, which in 2007 ranked just behind Ireland in apparent fiscal responsibility. It also had high private sector debt, but most of those debts have not gone bad.

The differences highlight the fact that debt numbers alone tell little. For a country, the ability of the economy to generate growth and profit, and thus tax revenue, is more important. For the private sector, it matters greatly what the debt was used to finance. If it created valuable assets that will bring in future income, it may be good. Even if the borrowed money went to support consumption, it may still be fine if the borrowers have ample income to repay the debt.

That is one reason many euro zone countries are struggling even with harsh programs to slash government spending. With unemployment high and growth low — or nonexistent — it is not easy to find the money to reduce debts. And debt-to-G.D.P. ratios will rise when economies shrink, even if the government is not borrowing more money.

Floyd Norris comments on finance and the economy at nytimes.com/economix.

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