We don't have to love our debts, but we do have to live with them

Debts and regrets, as Carly Simon sang. We have share prices globally at, or close to, all-time highs – and that is despite what is happening in Greece, or, indeed, in Ukraine. We have a growing world economy, albeit an uneven one. In the US and UK, we have unemployment below 6 per cent and consumption rising. But – a huge but – this is a recovery saddled with debt.

That is the unusual and troubling characteristic of this upswing, and it is not confined to us. Actually, the UK is in the middle of the debt league, for while in some respects we are doing worse than other developed countries – our public sector deficit, for example – in others, we are doing better. For example, as individuals we are paying back debt, albeit slowly, which is more than can be said for people in many developed countries, including Canada, Australia, Sweden and France.

A new report by McKinsey Global Institute, the research arm of the consultants, makes some suggestions as to how the world might manage the problems that debt creates. The basic message is that we have to learn to live with debt, reducing it where we can, but also being open about its levels and its consequences.

The numbers are disturbing. If you add together all debt, that is government debt, company debt and household debt, Japan tops the table with debts equivalent to 400 per cent of GDP. But other countries with smaller public debt have higher private debt. Thus Ireland comes right behind Japan, with total debts of 390 per cent of GDP, followed by Singapore, Portugal, Belgium, the Netherlands, Greece, Spain and Denmark, all with debts of more than 300 per cent of GDP. Total debt in the UK is “only” 252 per cent of GDP, a little lower than France and Italy but more than the US, at 233 per cent, and Germany, at 188 per cent.

The study looks at the emerging world, too. Here the main concern is China, where overall debt is still only 217 per cent of GDP, but has shot up since 2007. China escaped the great recession by gunning up domestic investment, particularly in infrastructure and housing. The price has been a tripling of debt in seven years, with particular concern about the debt load of the property sector. True, absolute debt levels are not the only factor in economic health.

For example, the Netherlands is in vastly better shape than Greece, because, though it carries more debt, it is much more competitive and therefore able to service it. At the bottom of the debt league are some real basket cases: Argentina, on this measure, is the least indebted country, with debts of only 33 per cent of GDP. But that is because it has reneged on much of its debt and cannot borrow abroad as a result. Russia, too, has low debt – 65 per cent of GDP – but its chances of borrowing abroad are not bright either.

There are two further points. One is that net government debt is typically a lot lower than gross debt and this makes the figures, particularly for Japan, look rather less frightening.

The other is that debt in the developed world is much higher than in the emerging world. But you would expect this. Developed economies have a lot more invested in all infrastructure and housing than emerging economies. Debts are the flip-side of this investment. As long as the investment is productive, and interest payments can be serviced, there should not be too much of a problem. The issue, unfortunately, is that a lot of the debt accumulated in the developed world has been to pay for past consumption, public and private, and so has not really been productive.

What’s to be done? There is no magic wand, but there are ways of chipping away at debt so that it becomes less of a drag on the economy. These include mortgage contracts designed to try to cut the instances of default. For instance, there could be risk-sharing between lender and borrower, sharing the bonus of rising house prices but also the pain if prices fall. Governments and central banks could use better regulation and other macro-economic policies to damp down the credit cycle – smaller booms and busts – though our experience in the UK has been discouraging.

One obvious win would be to remove incentives for companies to add to debt rather than equity capital. It is ridiculous that owners are encouraged to load debt on to companies, thereby cutting corporation tax liability, while dividends on equity capital are highly taxed. But that would need international co-operation, not always easy.

There will always be cases when the borrower either can’t pay, or refuses to do so. Look at Greece, a story than cannot end well and may end badly. We need to be honest about debt, and particularly about the obligations on both sides, as I think is happening at a personal level in the UK. It was so easy then – too easy in fact.