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Financial Post, Weekly edition, Thu 09 Jun 88, page 12. Editorial.


Debts not only in Third World

It's ironic that while Canada and the U.S., along with the other participants in the economic summit, will be talking in a couple of weeks about Third World debt problems, the two countries are themselves heavily in debt to foreign creditors. Indeed, the U.S. now owes more than any of the Third World nations. There has been ''an explosion of indebtedness in North America,'' William Mackness, dean of the Faculty of Management at the University of Manitoba, and Philip Howell, senior economist at the Bank of Nova Scotia, told this month's conference in Toronto on the future of the international monetary system.

Relative to GNP, debt levels in both countries were essentially stable prior to the mid-1970s. Then the debt took off. In Canada, the debt-to-GNP ratio rose from 1.6 to 1.9 between 1975 and 1981, and has since climbed to 2.1. Since 1981, total U.S. debt outstanding has risen from 1.6 times GNP to more than 2.2 times.

''Of particular concern,'' Mackness and Howell noted, ''is the state of deficit levels after five years of economic expansion. With the North American economy in the last stages of this business cycle, the fiscal problems in both countries are likely to deteriorate further. Moreover, excessive government borrowing to support public-sector consumption is triggering a massive run-up of foreign indebtedness by North Americans.

''As long as North American governments insist on running massive fiscal deficits to finance current consumption, problems will persist. Excessive reliance on foreign financing tests the will of foreign investors. Overseas creditors do not have an unlimited appetite for North American paper. Consequently, recurring foreign-exchange pressures and financial instability will increasingly become the order of the day.''

Governments in both countries should take note of how the Canadian private sector redressed its debt-equity balance. Both the corporate and personal sectors in Canada have improved their balance sheets since the pre-recession period.

Total Canadian debt-equity ratios have fallen below those of the U.S. ''Having had the experience of taking overleveraged corporations through a period of declining sales and rising interest costs, Canadian managers show no inclination to repeat it,'' Mackness and Howell said.

In the U.S., however, ''the wisdom of gutting the corporate equity base through debt-financed takeover activity in recent years will be severely tested during the next recession.''

Excessive debt loads demand a big slice of earnings for debt service. Although the Canadian corporate sector has improved its debt-equity position, it's taken five years of strong economic performance to do it. The U.S. and Canadian governments, on the other hand, continue in the red despite economic expansion. Lectures to the Third World from North America would carry more weight if its own fiscal house was in better order.

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Revised: June 3, 1995

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