Today, Debt Is Cheaper Than Equity. When Will It Start to Decline?

The quotation points to serious problems facing the economy. Yet the statements it contains are vague, imprecise and lacking in specifics. Debt increases precisely as a consequence of deficits. We need to understand how this happens and identify the economic laws governing the process.

The economic analysis of debt is an exceptionally demanding field. I must therefore begin with the work of Dambisa Moyo, who worked at the World Bank. In her book How the West Was Lost: Fifty Years of Economic Folly—and the Stark Choices Ahead, she examines a fundamental equation used in debt analysis.

Above all, it is governments—not bankers—that must retain control over public debt.

Wise men once were held

in higher esteem than kings…

In our neglected,

foolish world,

wisdom is nowhere to be found…

And the average consumer?

Of those who rule over us,

he has not the slightest idea…

Nor does he wish to know

that they are criminals

— known as BANKERS…

— V. Hornáček

In July 2009, Barney Frank, a prominent American politician and, crucially, Chairman of the House Financial Services Committee, which was responsible for overseeing financial services—including securities, insurance, banking and housing—made the following statement:

“Management has a duty to its shareholders to pay attention to reducing the company's risk.”

Dambisa Moyo writes:

“This seemingly innocuous statement reveals a fundamental misunderstanding of capital structure and of the important distinction between the roles of debt holders and equity holders—a misunderstanding that ultimately contributed to the financial crisis of 2008.”

She bases her discussion of debt on an equation involving three factors:

• EV – Enterprise Value

• EQ – Equity Value

• ED – Value of Debt

These are related as follows:

\[ \boxed{EV=EQ+ED} \]

A proper understanding of her argument requires substantial economic knowledge. Let me explain the problem.

My starting point must be the Maastricht criteria, which, with what can only be described as scientific immaturity, established several requirements for entry into the European Union:

• Government debt must not exceed 60 per cent of GDP—that is, a debt-to-GDP ratio of 60%.

• The government budget deficit must not exceed 3% of GDP.

GDP is an inappropriate basis for comparison. One reason is that GDP is expressed in monetary units, whereas the more meaningful indicator is debt per capita—the ratio of debt to the population.

The criteria do not provide adequate warning signals. Meanwhile, we observe an increasing level of debt. Yet economic science possesses the necessary analytical tools.

Let us examine the problems of debt and deficits using the insights of economic theory.

Consider the following dynamic model, in which D represents debt and Y represents GDP:

The solution to this model does not consist merely of numerical values but of trajectories for debt and GDP.

The trajectory of debt is:

And the trajectory of GDP is:

Equation (4.52) contains an assumption concerning the annual increase in debt—represented by alpha multiplied by \(Y(t)\), rather than by an arbitrarily specified 60% threshold.

Equation (4.53), meanwhile, assumes that GDP grows at a constant rate, β.

The solution demonstrates that debt, in equation (4.66), follows a quadratic function, whereas GDP, in equation (4.67), follows a straight-line trajectory.

We can therefore see clearly what determines the evolution of debt and what determines the evolution of GDP.

This gives us valuable information in advance, before the economy's actual performance becomes observable.

Having solved the model completely, we can explain the fundamental characteristics of these trajectories over time. This is important information for the minister.

However, our analysis must go further.

The Maastricht criterion requires us to examine the debt-to-GDP ratio.

By taking the ratio of \(D(t)\) to \(Y(t)\) and solving the resulting expression, we obtain its trajectory. I shall not reproduce it here. Interested readers can calculate it themselves or consult my book Macroeconomic Analysis (Makroekonomická analýza).

Thanks to the model, an economic policymaker can see clearly and in advance what needs to be done. The evolution of debt becomes visible years ahead.

If we plotted both trajectories on a graph, we would find that debt exceeds the value of GDP as early as the sixth period. It would therefore also have exceeded the 60% threshold.

Were the European Union's institutions unable to construct such a mathematical model—or, indeed, a more comprehensive one?

Were Slovakia's Institute for Financial Policy (IFP), operating under the Ministry of Finance, and its Value for Money Unit equally unable to develop a dynamic econometric model and experiment with it?

Such a model would have enabled the minister to demonstrate, convincingly and visually, and to substantiate his claim that:

“If we maintained this one-percentage-point pace of consolidation in subsequent years, our deficit would fall to three per cent sometime towards the end of the electoral term in 2027, and our gross debt would begin to decline.”

Verbal assurances are not convincing. Indeed, they obscure the very essence of the problem.

What professional responsibility do the Institute for Financial Policy and the Value for Money Unit bear?

Is this a case of scientific immaturity?

The minister must be provided with relevant information. Every theorist—including those working in these institutions—forms opinions according to his or her intellectual, spiritual and educational development.

To put it euphemistically, what we need is a kind of economic Gothic architecture.

Above all, however, when establishing the criteria, the Delors Committee should have employed the scientific methods of discriminant analysis.

Discriminant analysis is concerned with comparison and with classifying a given set of entities into groups—whether countries, districts or other territorial units. It can also address the international classification of countries according to their level of economic development.

Only a scientific method can produce credible conclusions—for example, conclusions concerning whether a country meets the criteria for membership of the European Union.

There are still countries waiting to join.

Without such a scientific foundation, decisions become arbitrary.

More importantly, the European Union has failed to establish how to ensure that member economies develop to the full extent permitted by their own resources, and how EU membership can secure, strengthen and stabilise their development rather than their decline.

Policymakers must understand and decipher this problem.

In keeping with the title of this reflection, I cannot fail to recall an important insight from one of our great economic thinkers:

“Credit is the transfer of capital into another party's economic control, subject to an obligation of repayment. It is an exchange of something present for something future. There is a temporal difference—a gap—between performance and counter-performance. The two do not coincide in time. Credit is sometimes also defined as the remunerated transfer of purchasing power to a debtor, on the understanding that the debtor will repay the purchasing power borrowed.”

This definition comes from the work National Economy (Národné hospodárstvo), published in 1943.

Credit gives rise to debt.

In economic and legal terms, debt is equivalent to an obligation. It most commonly arises through:

• Borrowing from a bank (financial debt).

• Failure to remit taxes to the state (tax debt).

If we wish to manage debt, we must uncover its deeper causal relationships. In other words, we need a comprehensive understanding of the issue.

Conclusion

The problem of debt calls for one further observation.

I have read the assessment published by Slovakia's Council for Budget Responsibility (RRZ), which states that our public debt is well above its supposedly safe level.

According to the Council, this means that:

“Slovakia does not have a sufficient fiscal buffer to cope with a major unexpected crisis.”

The term fiscal buffer is jargon unworthy of an institution such as the Council for Budget Responsibility.

The relevant institutions must not examine debt through an ideological lens, even when their representatives hold positions in important public bodies.

But today, this is not a question of politics.

Debt is a question of the stability, security and sovereignty of the Slovak Republic, and of the country's ability to respond to exceptionally serious events unfolding around us.

Unfortunately, contemporary debt management has become thoroughly permeated by new financial instruments and concepts, such as the swap.

A swap is a financial derivative whose various forms complicate financial analysis and which is frequently used for speculative purposes. Its intended function is to facilitate risk management.

Debt is generally cheaper than equity because of its tax advantages and the lower risks borne by creditors.

Readers will undoubtedly be familiar with the saying:

“Debt is a good servant, but a bad master.”

We must understand the entire structure and background of indebtedness.

Professor J. Husár

Rohovce, 17 October 2026