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Opinion: Opinion: Debt and stagflation will be the mother of all financial crises


NEWYORK (Project Syndicate)— The world economy is reeling from the unprecedented confluence of economic, financial and debt crises, following the explosion of deficits, borrowing and leverage in recent decades. .

In the private sector, the debt mountain includes debt owed by households (such as mortgages, credit cards, car loans, student loans, personal loans), businesses and corporations ( bank loans, bond debt and private debt) and the financial sector (debt of banking and non-banking institutions).

In the public sector, it includes central, provincial and local government bonds and other official liabilities, as well as contingent liabilities such as unfunded debt from pay-as-you-go pension schemes. usage and health care systems—all of which will continue to grow as society ages.

Incredible debt load

Just looking at the obvious debts, the numbers are staggering. globally, total private and public debt The share of gross domestic product has increased from 200% in 1999 to 350% in 2021. The share is now 420% in advanced economies and 330% in China.

In the United States, the rate is 420%, higher than during the Great Depression and after World War II.

Of course, debt can boost economic activity if borrowers invest in new capital (machines, buildings, public infrastructure) that provide a return above the cost of borrowing. But many loans are simply to finance consumer spending that exceeds one’s income on an ongoing basis – and that’s a recipe for bankruptcy.

Furthermore, investing in “capital” can also be risky, even if the borrower is a household buying a home at artificially inflated prices, a company looking to expand too quickly without caring. to profit, or a government that is spending money on “white elephants”. ” (lavish but futile infrastructure projects).

excessive borrowing

Such over-borrowing has been going on for decades, for a variety of reasons. Financial democratization has allowed low-income households to finance consumption with debt. Center-right governments have consistently cut taxes without cutting spending, while center-left governments have spent generously on underfunded social programs with higher taxes.

And tax policies that favor debt over equity, aided by the ultra-loose monetary and credit policies of central banks, have fueled a spike in borrowing across the region. private sector and public sector.

Years of quantitative easing (QE) and credit easing bring borrowing costs close to zero
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and in some cases even negative (as in Europe and Japan until recently). By 2020, the dollar-denominated public debt has a negative yield of 17 trillion dollarsand in some Nordic countries, even mortgage negative nominal interest rate.

insolvent zombies

The explosion of unsustainable debt ratios implies that many borrowers—households, corporations, banks, shadow banks, governments, and even nations—are “zombies.” insolvency is supported by low interest rates (which help keep their repayment costs under control). ).

During both the 2008 global financial crisis and the COVID-19 crisis, many defaulting companies that should have gone bankrupt were rescued by policies of zero or negative interest rates, QE, and bailouts. fully financial.

But now, inflation – fueled by extremely loose financial, monetary and credit policies – has ended this financial era Dawn of the Dead. With central banks forced to interest rate increase
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In an effort to restore price stability, the zombies are experiencing a sharp increase in the cost of debt repayment.

For many, this represents a triple shock, because inflation is also eroding real household income and reducing the value of household assets, such as homes. and stocks.
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The same goes for corporations, financial institutions, and governments that are weak and over-leveraged: they face steep increases in borrowing costs, falling income and revenues, and decline all property values ​​at once.

The worst of both worlds

Worse yet, these developments are coincident with Inflation is back (high inflation coupled with weak growth). The last time advanced economies experienced such conditions was in the 1970s. But back then at least, debt ratio very low. Today, we are facing the worst aspects of the 1970s (stagflation shock) in addition to the worst aspects of the global financial crisis. And now, we cannot simply cut interest rates to stimulate demand.

After all, the global economy is being battered by negative supply shocks in the long term and short term that are slowing growth and increasing prices and production costs.

These include pandemic disruptions to the supply of labor and goods; the impact of Russia’s war in Ukraine on commodity prices; China’s increasingly disastrous no-COVID policy; and a dozens of other medium-term shocks—from climate change to geopolitical developments—that would add to stagnant inflationary pressure.

Unlike the financial crisis of 2008 and the early months of the COVID-19 pandemic, simply bailing out private and public agencies with loose macroeconomic policies would add fuel to the inflationary fire. broadcast. That means there will be a hard landing—a deep and prolonged recession—in addition to a severe financial crisis. As the asset bubble bursts, debt repayment rates skyrocket, and inflation-adjusted incomes fall for households, corporations, and governments, the economic crisis and financial collapse will affect each other. together.

To be sure, advanced economies that borrow in their own currencies can use a sudden burst of inflation to reduce the real value of some nominal long-term fixed-rate debt. With governments reluctant to raise taxes or cut spending to reduce deficits, central bank deficit monetization should once again be seen as the path of least resistance.

But you can’t fool everyone all the time. Once the god of inflation is out of the jar – which is what will happen when central banks give up the fight in the face of looming economic and financial fallout – nominal and real borrowing costs economy will increase. The cause of all debt crises due to stagnant inflation can be delayed but not avoided.

Nouriel Roubini, professor emeritus of economics at New York University’s Stern School of Business, is the author of “Mega Threats: Ten Dangerous Trends That Imperil Our Future, and How to Survive Them” (Little, Brown and Company, 2022).

This commentary has been published with permission of Syndicate Project The inevitable fall

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