in the second half of the 1990s, and Japan, a general improvement of primary balances
over the nineties helped to put debt levels on a downward path. However, in parallel with
the reduction of debt levels, primary surpluses have actually worsened during the current
decade. This is the case of all the EU countries except Spain, Austria and Denmark,
where primary surpluses did not deteriorate while debt fell.
All in all, periods of rising debt appear broadly coincidental with an improvement in
primary balances, while primary balances have tended to worsen in parallel with the
reduction of debt. Therefore, Tables 2.1 and 2.8 (the latter in Appendix 2.A) seem to
suggest that fiscal behaviour in the EU (and probably in the US, but less evident in Japan)
has overall been sensitive to debt developments.
Debt Accounting
Further insights about government debt developments during our sample period are
obtained by performing a simple accounting exercise of the sources of debt growth. The
exercise highlights the importance of the growth dividend compared to that of the so-
called stock-flow adjustment (SFA) as determinants of debt growth.
Expressing the fiscal variables in percent of GDP, the flow government budget identity
for period t can be written as:
dt = -st +
I1+irI d
11 + λt J ,
t-1
(2.7)
where i is the nominal interest charge in government debt and λ is the nominal GDP
growth rate. Subtracting then dt-1 in both sides of expression (2.7) and rearranging terms,
we obtain the equivalent expression:
( λ ï
(2.8)
dt - dt 1 = def-I -λ- I dt 1
t t-1 t t-1
∖ 1 + λ J
according to which the change in the debt-to-GDP ratio in year t is equal to the budget
deficit inclusive of interest expenditure, deft = -st + it dt-1 , minus the growth dividend,
the second term in the right-hand side.
In the real world, equations (2.7)-(2.8) do not generally hold. The reason is that the
principles according to which the government deficit and debt are compiled are different.
As a result, once it is corrected from the effect of nominal growth, the change in the
outstanding stock of debt can be larger or smaller than the deficit (European Commission,
2005). One of the main reasons for this comes from the differences in the gross and net
in debt levels in Finland took place suddenly in the early 1990s, when after the fall of the soviet
regime and the concomitant drastic reduction of Finish exports plunged the country into a recession,
the result of which was that the surplus of 5% of GDP recorded in 1990 turned into a deficit of 8% of
GDP in 1993. In parallel, debt levels rose from 14% of GDP in 1990 to 56% of GDP in 1993.
Similarly, in Sweden the surplus of 4% of GDP recorded in 1990 turned into a deficit of 11% of
GDP in 1993, with debt going up from 42% to 71% of GDP. Also note that the deterioration of the
primary surplus in the UK in the late 1980s/early 1990s is associated to a reduction of debt levels
from 61% of GDP in 1977 to 48% of GDP in 1993.
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