Global debt is likely to dampen revival when pandemic ends

Global debt It is expected to surge to over 342 per cent of GDP or $270 trillion. Much depends on the length of the pandemic and depth of recession

EXTENSIVE global debt is likely to impede economic growth once the pandemic ends. So far, the only solution that has been discussed is an acceleration in inflation to lower the debt level in real terms. Governments will be reluctant to slam on higher taxes to pay for the COVID-19 bailout. Austerity, a failed policy since the 2008/2009 global financial crisis, is unlikely.

Indeed debt forgiveness for stricken developing nations may well be on the agenda. Repayments and interest have already been postponed for a year.

Debt has soared since the 2008/2009 financial crisis

The Institute of International Finance (IIF), the global association of the financial industry, estimates that global state, corporate and household debt rose by $10 trillion in 2019 to more than $255 trillion.

At over 322 per cent of GDP, global debt at the end of last year was 40 percentage points or $87 trillion higher than at the onset of the 2008 financial crisis.

Debt outside the financial sector topped $192 trillion, including household debt of $48 trillion. Emerging market debt rose to $71 trillion or 220 per cent of gross domestic product, up from 147 per cent in 2007.

These mind-boggling figures are likely to increase sharply and the extent will depend on the length of the pandemic and depth of the global recession.

To counter COVID-19, governments have already issued bonds and other debt of $2.1 trillion in March.

“Using a simple top-down estimation, if net government borrowing doubles from 2019 levels and there is a 3 per cent contraction in global economic activity, the world’s debt pile would surge from 322 per cent of GDP to over 342 per cent this year. In other words, the increase would raise global debt to at least $270 trillion,” said Emre Tiftik, a research director with the IIF.

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That, of course, could be an underestimate as several economists contend that the global recession could be even deeper.

How debt impedes economic recovery

Even before the pandemic crisis, Lacy Hunt, an economist at the US Treasury fund manager Hoisington, warned that “the deleterious nature of excessive debt and monetary problems will prevent a turnaround in the negative trajectory of growth in the world economy”.

A sharp contraction in corporate earnings and mounting job losses are already exacerbating the debt service burden for businesses and households, warns Sonja Gibbs, managing director and head of sustainable finance at the IIF.

“A sharp upward trajectory in debt levels looks all but certain. Much depends on the extent to which the virus is contained and treated, and how well the fiscal policy response can support the most vulnerable segments of the economy. This applies particularly to small and medium-sized enterprises (SMEs) and low-income households,” she said.

Inflation, income inequality and the emerging crisis

“Widening fiscal deficits and massive expansion in money stock could revive inflationary pressures,” Ms Gibbs added. “While this should ease debt burdens, the impact on prices will likely be quite different across countries, particularly between emerging and mature economies.”

Financing problems are already becoming prevalent. The IIF estimates that over US$20 trillion of global bonds and loans are due in the coming months towards the end of 2020.

Emerging markets will account for $4.3 trillion of that amount. Emerging nations will also need to refinance $730 billion of total foreign debt estimated at $5.3 trillion.

“Highly accommodative monetary and fiscal policies are essential to mitigate liquidity and solvency risks, but prolonged ultra-loose policies could result in still greater debt imbalances and wealth and income inequality,” the IIF said.

Debt forgiveness requested

“The world must combat a looming debt meltdown in developing countries,” said Joseph Stiglitz, a Columbia University professor and Nobel laureate in economics. It is crucial that creditor countries don’t press for interest and debt repayments, he said.

“These countries will be ravaged far more by the pandemic than advanced economies. People in lower-income countries tend to live in closer proximity to one another and a higher share of the population suffers from pre-existing health problems,” Mr Stiglitz said.

© Neil Behrmann— First published in The Business Times Singapore

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