A government budget deficit occurs when a government spends more than it receives in tax revenue, while a structural deficit is when a budget deficit persists for some time.

Structural deficits will eventually pose a problem for any government. Deficits are financed by borrowing, and continued borrowing leads to an accumulation of debt. The ability to pay off this debt is measured by a country’s debt relative to its GDP, referred to as its debt-to-GDP ratio.

If a country’s debt-to-GDP ratio gets too high, investors will worry that the government will either default on this debt, or will deflate its value away by monetising the debt and thereby engineer a high inflation rate.

Example

A number of European countries in 2011, such as Greece and Spain, are now facing structural deficits leading to a crisis of confidence regarding their ability to pay off this debt.

The point at which a structural deficit and rising debt-to-GDP ratio can lead to a crisis of confidence depends on the credibility of a country. A country with a long history of not defaulting on its debt will endure large deficits without a financial crisis.

The US, for instance, has large structural deficits but is still able to borrow at very low interest rates. While the UK’s debt-to-GDP ratio has hovered around 40% from 1980 to 2007, since then it has doubled to 80% due to recent large deficits. [Source: John Coleman, professor of economics, Fuqua School of Business, Duke University]