Debt continues to be a major source of instability for the global economy.
Since 2007, global debt has grown by $57trillion, or 17 per cent of GDP. As at mid-2014, global debt was $199trillion, or 286 per cent of the world’s GDP. In comparison, global debt was $142trillion (269 per cent of GDP) in 2007 and $87trillion (246 per cent of GDP) in 2000. Since 2007, no major economies and only five developing economies have reduced the ratio of debt to GDP in the real economy (households, corporations and governments). In contrast, 14 countries have increased their total debt-to-GDP ratios by more than 50 percentage points.
Over 20 countries now have debt-to-GDP ratios above 200 per cent, led by Japan (400 per cent). Since 2007, developing economies have accounted for roughly half of the increase in debt. China’s debt levels have increased rapidly, quadrupling between 2007 and 2014 from $7trillion to $28trillion.
Business, household and government debt have all increased. Only the financial sector in developed markets has reduced leverage. Businesses have borrowed not to invest, but to repurchase their own shares or buy other companies. Household borrowing, around 74 per cent of which is mortgage debt, has increased in 80 per cent of countries. Based on risk measures, such as debt-to-income ratios, debt service ratios, and house price changes, households in Canada, the Netherlands, Sweden, Australia, Malaysia and Thailand are potentially vulnerable.
Since 2007, government debt has grown by $25trillion, to $58trillion. It exceeds 100 per cent of GDP in 10 countries, including Japan and a number of European nations. Japanese government debt is over 240 per cent of GDP. Given slow growth, low inflation rates, and the imbalance between tax revenues and expenditure, government debt-to-GDP ratios are forecast to rise for the foreseeable future in the US, Japan and many European countries. In a lot of these countries, government debt has reached unsustainable levels, and it is unclear how or when it will be reduced.
Despite definitional disagreements, the shadow banking system – a complex network of special purpose vehicles, securitisation structures and investment funds involved in providing finance – remains large, equivalent to a quarter of the world’s total financial system. The Financial Stability Board estimates that the sector grew from assets of $26.1trillion in 2002 to $71.2trillion a decade later. Even after excluding spurious non-banking activities, the sector is estimated to be around $35trillion in size. It is especially large in the US, UK and China. Despite some retrenchment after 2008, shadow banks have continued to grow, ironically encouraged by tighter banking regulation and ample liquidity. Asset overvaluation and elevated debt levels are complicated by a poor macro-economic environment, characterised by weak growth, disinflation or deflation, low commodity prices and destructive policies such as competitive devaluations.
Despite having fared better, the US and UK have levels of growth well below trend. Europe hovers on the edge of recession. Since 2008, Japan has experienced four recessions in six years. Emerging markets have not become the expected engine for global prosperity. While still high by developed country standards, growth in China and India has almost halved. Brazil and Russia are in recession. The slowdown in China affects other markets, all part of complex global supply chains. Higher demand for and prices of resources from China and India shielded Australia, Canada, South Africa and New Zealand from the impact of 2008, but the slowdown in emerging markets is now reducing growth in these commodity-dependent economies.
Inflation levels remain well below targets, with many economies threatened by falling prices. Policymakers fear the effects of deflation, when tax revenues stagnate or even fall, and consumption and investment may be deferred. Declines in asset prices and the appreciation in the real value of debt combined with lack of growth in incomes, or the shrinking of them would make the task of managing high debt levels more difficult, creating problems for banking systems. The shrinking economy increases the debt-to-GDP ratio. Deflation would also reduce the effectiveness of low or zero rates.
Slow growth and disinflation or even deflation would not normally be problematic, but they are incompatible with high levels of debt. The feeble performance comes despite unprecedented efforts by governments and central banks to promote growth.
Between 2007 and 2014, the global debt increase of $57trillion created $15-17bn of additional GDP. In emerging markets, the result was worse. Between 2007 and 2014, China increased its total debt from $7trillion to $28trillion. The corresponding growth in the size of the economy was around $5trillion, from $5trillion to $10trillion. Central banks have pumped around $12trillion into the global money markets. While it has helped stabilise conditions, it has not boosted growth or created the expected levels of inflation. The lack of responsiveness suggests a fundamental deformation of the structure of economies.
Satyajit Das is a former banker and author. His latest book, A Banquet of Consequences, can be bought here
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