OTTAWA - The solution to the just past Great Recession is turning into the next big problem facing the global economy, the International Monetary Fund says.
The international economic organization is sending out a general alarm over ballooning government debt, signalling that just as the credit crisis was the key issue confronting the G20 in 2008, government debt will need to be tackled at the group's June meeting in Toronto.
"The increase in budget deficits (through stimulus spending) played a key role in staving off an economic catastrophe," the IMF says.
"The attention of policy-makers should now turn to ensuring that doubts about fiscal solvency do not become the cause of a new loss of confidence -- recent developments in Europe have clearly indicated that this risk cannot be ignored."
Although much of the problems stem from profligate spending in the United States, the United Kingdom and many European countries before the recession, there's no doubt that government stimulus actions taken to mitigate the effects of the crisis have added to the problem.
Finance Minister Jim Flaherty said this week that government debt will be a key issue in the discussions -- perhaps the top item -- given how quickly the issue has emerged as a prime mover of markets and economic prospects.
In its 91-page report, the IMF makes clear just how big a problem government debt has become, and will become in the future.
In advanced economies, governments have taken on debt equivalent to 20 per cent of their gross domestic product since the onset of the crisis. They are projected to add another 20 per cent by 2015, reaching a cumulative average debt total of 110 per cent of GDP.
In the bigger economies of the Group of Seven, the debt ratio will exceed what occurred after the Second World War, with the exception of Canada, which stands alone in the group as a low-debt country with a current debt ratio of 32 per cent.
Bringing debt levels down to the pre-recession average of 60 per cent of GDP by 2030 will require governments to cut budget levels by 8.7 percentage points of GDP.
But failing to act could be worse, since the IMF estimated that that could result in reducing growth 0.5 per cent a year, a significant slowdown in economic activity and wealth creation when accumulated over several years.
But there is growing concern that few governments, except for the relatively solvent exceptions such as Canada and Australia, will be able to bring in the kind of severe austerity measures and tax increases that will be necessary.
Those fears reasserted themselves Friday, as jittery markets fell across Europe. New York and Toronto also took big losses, with the Canadian dollar dropping more than a cent to 96.93 cents US as nervous money sought safety in U.S. treasury bills and gold.
Markets fell Friday even though economic reports in both Canada and the U.S. pointed to surprisingly strong growth.
In Canada, factory activity advanced 1.2 per cent in March -- 1.7 per cent in volume terms. In the U.S., both industrial output and retail sales for April easily coasted ahead of expectations.
None of it mattered. The Toronto exchange fell 101.62 points -- or about 0.09 per cent -- New York 162.79 points, or 1.5 per cent.
"We've seen a plan for Europe, but there are still many doubts about whether governments there are fully prepared to bite the bullet," said CIBC economist Peter Buchanan.
"This is going to be a matter of intense concern for some time and we're still not sure what the outcome will be ... (including) whether some countries will leave the euro."
The European currency fell to its lowest level in 14 months Friday and there were rumours -- denied by all concerned -- that French President Nicolas Sarkozy had threatened to pull out of the euro last week if Germany failed to agree to the $1-trillion eruozone rescue package.
Earlier in the week, IMF managing director Dominique Strauss-Kahn speculated that the eurozone would have to reform to bring greater cohesion, and other officials called for greater powers from the centre to force compliance by countries such as Greece and other weak sisters.
The skittishness of markets is a reflection that no-one knows how it will play out -- greater cohesion or rupture.
"The future for the European monetary union is uncertain and it is largely up to Germany," said Bank of Montreal chief economist Sherry Cooper. "The problem that besets Greece, Spain, Portugal and Italy is that their costs are too high relative to Germany."
Even if the issues are worked out, say economists, the needed austerity measures will slow global economic activity, which will spill into Canada through lower commodity prices and slower growth.
Cooper says she does not believe the spillover impact on Canada would be as great as the Lehman Brothers collapse in the fall of 2008 that triggered the financial and economic crisis. But, a trading nation, Canada can not avoid the turbulence altogether, she said.
"In a global economy were are in this like everybody else," she said, "and there's no question we would do far better if the global economy is strong."
