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The Australian Government owes nearly $1 trillion to its creditors. And while this fact might not make paying our own debts (like home loans and credit cards) any more palatable, it does demonstrate that, at a government level, debt is big business.
So, what is government debt all about, then, and why has our own government taken on so much of it? To help us square the ledger, we spoke with Deakin expert, Matthew Crocker.
Australia’s current debt stands at $975.3 billion. But before we can understand what causes government debt, we need to know what government debt actually is.
As Crocker explains, government debt can be thought of as an IOU from the government to the person the government borrows the money from. This promise from the government to repay its debt is called a ‘debt security’, but it’s not exactly like regular money borrowing.
‘Instead of describing the above as the Australian government borrowing money, it is equally correct to say that a person or company buys the government’s IOU,’ Crocker says. ‘We can think of it like this because in order to hold the government’s IOU, the person must hand over Australian dollars to the government. In this sense they are buying the government’s IOU. There is no other way to purchase Australian government debt – you must have Australian dollars.’
So, we can think of government debt as both a promise of repayment (by the government) and an investment or financial asset (for debt purchasers).
And what is the point of buying government debt? As Crocker tells us, government debt can be a money maker for some.
‘The government’s IOU is an attractive investment because it is effectively risk free – the government always pays and on time. If the purchase price of the IOU is less than its face value, the person who lends their Australian dollars to the government can make a profit when the government pays the face value of the debt security when it matures,’ he says.
Governments spend money. How much they spend and what they spend it on is variable, but all governments spend money to achieve their policy goals.
As Crocker explains, when the Australian government wants to spend more money than it has collected in revenue, it has a few options to choose from.
‘One – the government could increase taxes,’ he says. ‘Two – borrow (i.e. sell debt securities). ‘Three – sell a government owned asset (e.g. sale of Telstra). Or four – create new currency (i.e. print money).’
While all of these options successfully result in the government getting more money, they’re not all equally popular, with borrowing (selling debt securities) usually the preferred of the bunch.
‘Option one is politically unpopular and can be slow as it may require new laws to be passed,’ Crocker says. ‘Option three has its downsides because once you sell a government-owned asset, you can’t sell it again. Option four is never seriously considered because of the association between money printing and inflation. Therefore, the only option left is two.’ This is what causes government debt.
Government debt does matter, but, according to Crocker, while debt is always considered a ‘risk’, there is a big difference between debts created by the private sector and government debt.
‘The Australian government creates Australian dollars and can theoretically create as many of them as it needs,’ Crocker says. ‘As long as the Australian government only sells debt securities that are denominated in Australian dollars – that is, the government only ever promises to repay Australian dollars – then the Australian government cannot ever be forced to default on its debt.’
Yes, most national governments are in debt as are state governments.
Australian state governments go into debt because unlike the Australian government, they cannot create Australian dollars. But according to Crocker, the Australian government actually wants to maintain some level of Australian government debt as it promotes financial stability by providing financial institutions with a low risk asset to price their products. Likewise, he argues that outstanding government debt allows the Reserve Bank of Australia to control interest rates by selling and buying government debt.
It sounds like the Australian government goes into debt for reasons other than needing to acquire money.
Australian government debt can only be purchased directly from the Commonwealth Treasury by registered bidders – and these bidders are large institutions rather than regular investors. What government debt is purchased can then be redistributed to other types of investors, though.
‘Registered bidders are mainly big banks,’ says Crocker. ‘But once they have purchased it, they generally will on-sell it to other investors such as superannuation funds or investment banks. However, it is possible for an everyday Australian to buy the government’s debt, just not directly from the government.’
So, how does the government pay off its debts? Simply put, the government pays its debt off in the same way that everyday Australians with household debt do – by sending money to whoever is owed. However, Crocker stresses that we shouldn’t think about the government’s finances as being like a household’s. A household can default on their debt, the Australian government can’t.
‘Operationally speaking, the government pays off its debt by instructing the RBA to transfer Australian dollars to the person who holds the debt,’ Crocker says. ‘After this is done the debt security is destroyed and the government is no longer in debt.’
If you look at Australia’s near-trillion-dollar debt and feel some concern, that’s a natural reaction – it’s a lot of money by any scale. But as Crocker points out, nearly 20% of it is owned by the RBA ($177 billion), which is itself owned by the Australian government. ‘Don’t worry if this is sounding confusing, because it is’ says Crocker. ‘What is government debt for is not as straight forward as the government needing money. Government debt serves lots of purposes, but given the Australian government can print as many Australian dollars as it wants, it clearly does not need to borrow the money.’
As Crocker explains, regardless of how high the Australian government’s debt might seem, the reality is that it always gets paid back in the end.
‘When the government sells a debt security, Australian dollars are returned to the government,’ he says. ‘Who holds our debt does not matter in the sense that we, Australia, are somehow beholden to the creditor. In practice, all that happens is when the debt matures, the Australian government will transfer the appropriate number of Australian dollars to whoever was holding the debt security.’
Rather than focusing on the size of the government’s debt, Crocker believes we should focus on economic indicators that measure things that matter to us, such as cost-of-living and wellbeing.
