Planet Earth’s love of debt is in full bloom. A headline-stealer in the aftermath of the Great Recession, debt was being gorged on by governments, while it was the bane of over-leveraged businesses and consumers. In both cases, it marked a U-turn in attitude: private debt was the fuel of the late-cycle buying binge, while strict public debt discipline was generally the hallmark of pre-recession fiscal management. Since that upheaval, debt of all kinds has gone in one direction—up. Can the global economy handle it, or is there cause for concern?
On the government front, hefty post-recession stimulus caused debt levels to balloon. Previously, debt was reasonably well-managed in Organisation for Economic Co-operation and Development (OECD) nations, stable at about 70% of GDP. By 2011, the average had cracked the 100% level, a ratings agency no-no, and maintained an upward trend through 2014, when area-wide public debt flattened out at about 110% of GDP. This may have been the price of avoiding a more serious collapse in 2009, but the rationalization that’s supposed to follow as the economy improves simply hasn’t happened.
There’s more. Further feeding the debt habit was the ultra-loose monetary policy that came on the heels of the fiscal binge. Record-low interest rates and ample liquidity proved hard to resist—for both governments and businesses. On the whole, the combined debt position leaves the global economy vulnerable to a normalization of interest rates or an untimely downturn in the global economy—both of which are distinct near-term possibilities.
So, is the problem contained? Can we narrow it down to a few bad cases that are biasing the whole? Well, that was more the case in 2009, when it was obvious that Greece, other notable Southern European economies, and a few others were debt outliers. Not so anymore. Japan’s long economic struggle has vaulted its general government debt to a staggering 225% of GDP, well ahead of Greece’s 187%. At the same time, the United States soared from the 65% pre-recession level to 107% late last year. This is just a taste of the almost universal, unidirectional deterioration in debt positions.
You might think that large emerging markets would get a bye on this one—trade surpluses, high savings rates, and so on, give the impression of solid debt management and low exposure levels. Well, guess again. According to the Institute of International Finance’s Global Debt Monitor released last week, emerging market debt hit a record-high $69 trillion in the first quarter of this year, adding up to 216% of GDP. Note that this is government debt, but also consumer and corporate debt as well. Even so, the number is high and reflects an increased debt appetite on all fronts.
Of all the categories, non-financial corporations in emerging markets are the ones that took on the most new debt in the easy liquidity years. The swelling debt coincides with the years of quantitative easing. The trend marks a departure from the distant past, where governments were the key debt culprits, particularly, but not exclusively, in Latin America.
Higher corporate debt in emerging markets presents a few key problems. In these high-growth markets, there’s an expectation that business activity will be a key driver of the economy, helping with fiscal management and the means of paying for new infrastructure. If interest rates are generally expected to rise, the burden on business will increase, compromising overall growth.
A further concern is that a large share of this is in China. While still classified as an emerging market, China produces the second-highest amount of annual GDP of any country, and as such, its debt exposure presents a risk to future growth. Given evidence of pent-up demand in the wealthy west, China still faces the prospect of continued business growth. However, trade policy concerns present a key risk to harnessing global growth potential, underlining the need for resolution of current disputes.
The bottom line?
Debt levels are rising globally, and not just in the places we’ve seen in the past. Management of this is possible under current global demand fundamentals. But these have been shaken by policy upset, darkening the near-term future. And the longer resolution takes, the more negative the consequences.
