S&P Global sees the size of aggregate global debt as “worrying”, and believes it will require structural change to avoid “the hell of a debt crisis”.
In a report released earlier this month called “Look Forward,” S&P Global Ratings authors Terry Chan and Alexandra Dimitrijevic describe “a world in disruption.” They ask whether a “great reset” is on the way.
The reset they desire would entail “community acceptance of more judicious spending and policymaker caution about debt.” The current debt-to-GDP ratio worldwide is 349 percent. This amounts to $37,500 of average debt for each person on the globe against a GDP per capita of only $12,000.
Those figures hold after, and in some part because of, covid. The authors invoke 321 percent as a healthier benchmark: that was the ratio as of the first quarter of 2019.
Getting back to the pre-covid level is a rather modest goal. A more dramatic goal might be getting back to the ratio as of mid-2007, prior to the global financial crisis, when the ratio was 278 percent, according to the report..
Looking specifically at the indebtedness of non-financial corporates: their leverage ratio before the GFC (June 2007) was 75. Before the arrival of covid, it was 93. During the worst of the pandemic, it hit 101. This ratio has receded a bit from that, but only slightly: 98. Both households and the financial sector are less leveraged than are the non-financial corporates.
Going forward, Chan and Dimitrijevic are concerned about a pessimistic scenario in which lenders, “overly desperate to book assets,” lend to unproductive borrowers and the debt-to-GDP ratio balloons to 391 percent by 2030. Even in a less-jaundiced “base-case scenario,” Chan and Dimitrijevic see that number rising to 366.
The world’s central banks have been active, seeking to cool down inflation by raising interest rates. This has caused an increase in the cost of servicing debt. The Fed funds rate is up by nearly 4 percentage points; the ECB base rate was up by 2 points in 2022. This could mean (assuming 35 percent of the debt is floating rate) an increase in interest expenses of $3 trillion a year.
In an optimistic scenario, governments and regulators resist “populist demands” and decide to direct their countries’ leverage down. If that happens, it can come down … reaching a pre- covid level (321) by 2030. That will not be easy. It will involve “more cautious lending” by both private and public institutions, “reduced overspending, restructuring [of] low-performing enterprises and writing down less productive debt.” Chan and Dimitrijevic are not expecting their optimistic scenario, but they do regard it as possible, because the pandemic has receded and economic activity has resumed to a degree that may allow institutions to rein in their issuance of debt.