Something will have to come to a screeching halt

This makes for an interesting read: a report from the National Center for Policy Analysis dealing with "unfunded obligations" of European governments. What exactly are unfunded obligations? They basically are a crude measure of sustainability of a given government's fiscal policies, assuming that current policies as well as trends in output growth and demographic structure will continue unchanged. More specifically, what the author does is the following. He assumes that in all countries of interest, all relevant policies (e.g. retirement and welfare programs, healthcare funding, retirement age, tax rates, etc.) will continue as they are now all the way through 2050. He also assumes that demographic trends (such as fertility, immigration and life expectancy growth rates, etc.), and GDP growth rate, will continue at their current levels until 2050 as well. He then calculates the present value of total public debt that a given country will have accrued in 2050 if all those assumptions hold true. Or, equivalently, the value of capital that each government would have to set aside right now in order that this capital, earning interest equal to that government's current borrowing rate, would allow it to fully pay its liabilities in 2050. The results of those calculations for fourteen European countries are presented below:

The values of unfunded liabilities are huge; on average, an European government would have to set aside capital equal to 4.343 of its current GDP today in order to fund them in the future. The driving force behind this is demography. As of now, in all countries of interest, fertility rates are below generation replacement level, and life expectancy is rising. If this were to continue indefinitely, the ratio of net payers to net payees would get lower and lower. This means that tax revenues would increase only slightly while the number of people entitled to payments from the government would increase immensely.

Of course, this analysis doesn't really mean that in 2050 the public debt of France will be equal to 549% of its GDP. Rather, it means that, in the future, France will have to try to reverse its negative demographic trends, or speed up its GDP growth, or severely cut its social programs--because otherwise it will go bankrupt. Some movement in the demographic trends can actually be seen already; in recent years in France and Scandinavian countries, fertility rates have been increasing and have now reached levels close to generation replacement. It's quite likely that that level will be surpassed soon and this, coupled with encouraging immigration, could get those countries out of trouble without having to cut government services too drastically.

Now take a quick look at the unquestionable leader in unfunded liabilities: Poland. If the assumptions used in the report hold, then in 2050 Polish public debt will be more than fifteen times its current GDP. Poland can't dig itself out of the hole by changing the demographics alone; its current government expenditure structure is completely unsustainable. Or is it? If this estimate of fiscal imbalance is accurate, then why does anyone want to buy long-term Polish government bonds?