No matter how large a country’s debt may seem when it is reported in the daily headlines, a debt figure in nominal terms is a useless statistic unless it can be placed in an relevant, economic context. A headline like “U.S. debt explodes to $13 trillion” is meaningless by itself.

To judge the debt level of a country, economists generally use a statistic that is the government debt as a percentage of gross domestic-product (GDP). The reasoning is simple: as long as government revenue grows more quickly than debt payments, the country is fiscally sound. (The government receives more revenue from taxes and other sources when the economy grows.)

Here is one example: Imagine that tax revenue in 2009 is $1 million, and the interest payment on the debt is $10,000. The net profit is $990,000. Now, imagine that the government increased borrowing in 2010 so that interest payment doubled $20,000, but the economy grew enough so that tax revenue tripled to $3 million. The net profit would be $2.8 million. Although the debt increased in nominal terms, the increase in revenue was greater than the increase in debt payments. The debt-to-GDP ratio would fall.

In mainstream, economic theory, a country need not generally worry about its debt as long as GDP grows more quickly than payments on the debt. When the level of debt compared to GDP grows, a country’s fiscal standing becomes increasingly perilous since it is more likely to be unable to pay the interest on the debt (not to mention the debt itself).

Following Carlton’s excellent post on U.S. national debt, I wanted to provide a picture of European debt levels as well. As the chart at the top of this post details, many European countries are increasingly at risk of defaulting on their sovereign debts. (The numbers come from various sources that use different calculations to determine the exact statistics, so some data may be unavailable, different, or incomplete. The numbers for 2010 and beyond are, of course, projections.)

As the above chart notes, the problem is expected to worsen in the next few years. By the end of 2010, more than half of the countries comprising the European Union are projected to surpass the maximum 60% debt-to-GDP ratio mandated by the EU to maintain financial stability.

In general terms, the reasons that a debt crisis may occur in many parts of the continent are a combination of existing debt, the economic recession, and expensive entitlement programs as the populations of European countries age and not replaced by younger workers who pay into the systems. As the next chart shows, much of the burden on the debt-plagued, European countries — those on the left side of the chart — is a result of “non-discretionary expenses,” which include interest payments and social-benefit programs.

The logical solution to balance the countries’ books, of course, is to increase taxes (at least in the short term so economic growth is not harmed), and cut spending on entitlements. If an economic entity — a country, a business, or a household — cannot at least break even, then revenue must increase or expenses must fall (or both).

Greece’s efforts to bring its economy in line, however, are being protested by those who have grown accustomed to the social programs:

Striking Greek workers shut down transport and tried to storm parliament as lawmakers passed 4.8 billion euros ($6.5 billion) in budget cuts, including wage reductions, needed to trim the region’s biggest budget deficit.

Police with riot shields fired tear gas as demonstrators wearing biker helmets and ski masks pelted them with stones outside parliament in Athens where lawmakers approved the measures. Finance Minister George Papaconstantinou told parliament the cuts will show European Union allies and investors that Greece is making good on its deficit pledges.

Meanwhile, the economics minister of Germany — Europe’s largest economy — said that the country “will not give one cent” to Greece, and a German tabloid wrote an open letter saying that Greece should “get up early and work all day” like Germans. EU countries are not very willing to help each other despite fears that the sovereign-debt crisis could spread:

• France’s debt could rise to 74% of GDP
• Spain and Portugal might become the next Greece
• If the International Monetary Fund would bail-out Greece, then that would signal a lack of confidence in the euro and threaten the continent’s economic integration as a whole

However, there is a problem with projecting debt-GDP percentages into the future. Debt payments are fairly predictable based on the level of nominal debt and the current interest-rate. However, GDP is an economic wild-card. Few mainstream economists, for example, predicted the financial crisis that would begin in 2008, so debt-to-GDP predictions did not take the Great Recession into account. If the economy crashes (or explodes) in any given year, then the debt-to-GDP measurement can rise (or fall) accordingly, without any prior warning. Moreover, if a country’s central bank needs to raise or lower interest rates under unforeseen, economic circumstances, then that affects the interest payments that a government needs to make on its debt.

If current economic conditions persist, then many European countries will be in trouble unless they can decrease their expenses — and whether their constituents will allow that to occur remains to be seen. The futures of the European Union and the euro may rest on that very outcome.

Samuel J. Scott is a former Boston journalist now living in Israel. He is the founder of the Considerations blog and SJS Consulting Worldwide. E-mail him at sjscworldwide (at) gmail.com.

(Sources: “Economic Crisis in Europe: Causes, Consequences and Responses” (PDF), Table of the EU’s Gross Government-Debt as a Percentage of GDP, the International Monetary Fund, the Carnegie Endowment for International Peace, and Wikipedia.  More information is here.)