Expansionary monetary policies following the financial crisis have produced a global rise in the level of indebtedness that, considering the impending end of monetary loosening policies, appears more alarming than ever. Recently, one of the most authoritative voices to raise the problem was the International Monetary Fund with the April edition of Fiscal Monitor, in which it reported that public and private sectors are now more indebted than they were at their peak in 2009, by an amount equal to 12 percent of global GDP. Needless to say why we should worry, considered what followed the 2009’s climax.
This being the general picture, it is however possible to distinguish between two main opposing trends that are emerging lately regarding debt accumulation. In some countries, it is public debt the main cause of the surge of global debt levels, mainly reflecting the forced policy response to the economic meltdown during the global financial crisis. On the other hand, countries like Sweden, Canada and Australia, while maintaining very low public debt, are witnessing a dramatic surge in households’ debt, that looks very much like what the US experienced 10 years ago.
With respect to the former phenomenon, the IMF expressed serious concerns about the rising government debt burden: countries like the US, China and many European countries are likely to be especially vulnerable to a sudden tightening of global financing conditions, and large debt and deficits may prevent governments’ ability to resort to fiscal policy response in the event of a downturn.
Source: Federal Reserve Bank of Saint Louis
While not the only ones showing rising levels of indebtedness, the most advanced economies have the additional clear fault of not doing enough to stem this problem. The most obvious case comes from the US: Despite being nearly nine years into a recovery, the US Congress passed a package late last year, this way refusing the ideas of strengthening fiscal buffers, improving government balances and anchoring public debt. This short-sightedness will probably come at a cost one day. On the bright side, it is necessary to underline that much of the increase has been driven by governments and non-financial corporations, more easily able to cope with shocks, than by households. This should contribute to a greater overall stability.
However, the few countries that have come through the Lehman crisis in good shape and have maintained relatively low public debt-to- GDP ratios, are now facing a tremendous increase in private debt, particularly households and financial institutions. Australia, Canada and Sweden are three of these countries: despite public debt levels that are more than half the one of US (or average EU), they are increasingly showing a pattern that the US have known too well. Having escaped the financial crisis almost unscathed, these countries have seized the benefits which the lowest global interest rates in history could offer, without first suffering the economic meltdown of the US and Europe.
While the attention of the entire world was centered on those countries where the financial crisis has been more burning, and ever more stringent regulatory checks were imposed in these same countries, Swedish, Canadian and Australian households started a borrowing binge that will make them extremely vulnerable once the effects of monetary loosening will end. Not only does the dramatic upward trend in private debt strikingly resemble the one witnessed by the US before 2008, but also its composition is extremely similar. Indeed, much of the lending to households is in the form of mortgage debt, and this comes with a rapidly rising housing market, where on average the prices have increased by more than 150% since 2003.
One last worrying element worth mentioning concerns the banks of these countries, mostly financing themselves abroad and often on a short-term basis: this choice makes them easy victims of any credit tightening which may result from rising US interest rates. Similar patterns do not, of course, imply that history must necessarily repeat itself in the same way, but if we want to consider the old saying “historia magistra vitae” to be at least partly true, the aforementioned facts should be sufficient to ring some alarm bells: if the rise in interest rates is going to hit somewhere, it is likely that Sweden, Canada and Australia will be on the front line. And if the next crash starts from there, how will the overindebted big economies of the world and their deeply stressed public finances cope with it?
Giacomo Longoni
This being the general picture, it is however possible to distinguish between two main opposing trends that are emerging lately regarding debt accumulation. In some countries, it is public debt the main cause of the surge of global debt levels, mainly reflecting the forced policy response to the economic meltdown during the global financial crisis. On the other hand, countries like Sweden, Canada and Australia, while maintaining very low public debt, are witnessing a dramatic surge in households’ debt, that looks very much like what the US experienced 10 years ago.
With respect to the former phenomenon, the IMF expressed serious concerns about the rising government debt burden: countries like the US, China and many European countries are likely to be especially vulnerable to a sudden tightening of global financing conditions, and large debt and deficits may prevent governments’ ability to resort to fiscal policy response in the event of a downturn.
Source: Federal Reserve Bank of Saint Louis
While not the only ones showing rising levels of indebtedness, the most advanced economies have the additional clear fault of not doing enough to stem this problem. The most obvious case comes from the US: Despite being nearly nine years into a recovery, the US Congress passed a package late last year, this way refusing the ideas of strengthening fiscal buffers, improving government balances and anchoring public debt. This short-sightedness will probably come at a cost one day. On the bright side, it is necessary to underline that much of the increase has been driven by governments and non-financial corporations, more easily able to cope with shocks, than by households. This should contribute to a greater overall stability.
However, the few countries that have come through the Lehman crisis in good shape and have maintained relatively low public debt-to- GDP ratios, are now facing a tremendous increase in private debt, particularly households and financial institutions. Australia, Canada and Sweden are three of these countries: despite public debt levels that are more than half the one of US (or average EU), they are increasingly showing a pattern that the US have known too well. Having escaped the financial crisis almost unscathed, these countries have seized the benefits which the lowest global interest rates in history could offer, without first suffering the economic meltdown of the US and Europe.
While the attention of the entire world was centered on those countries where the financial crisis has been more burning, and ever more stringent regulatory checks were imposed in these same countries, Swedish, Canadian and Australian households started a borrowing binge that will make them extremely vulnerable once the effects of monetary loosening will end. Not only does the dramatic upward trend in private debt strikingly resemble the one witnessed by the US before 2008, but also its composition is extremely similar. Indeed, much of the lending to households is in the form of mortgage debt, and this comes with a rapidly rising housing market, where on average the prices have increased by more than 150% since 2003.
One last worrying element worth mentioning concerns the banks of these countries, mostly financing themselves abroad and often on a short-term basis: this choice makes them easy victims of any credit tightening which may result from rising US interest rates. Similar patterns do not, of course, imply that history must necessarily repeat itself in the same way, but if we want to consider the old saying “historia magistra vitae” to be at least partly true, the aforementioned facts should be sufficient to ring some alarm bells: if the rise in interest rates is going to hit somewhere, it is likely that Sweden, Canada and Australia will be on the front line. And if the next crash starts from there, how will the overindebted big economies of the world and their deeply stressed public finances cope with it?
Giacomo Longoni