The global debt overhang
A new IMF report illustrates that a large share of both advanced and emerging economies struggle with private debt overhangs. Excessive debt is a drag on growth and a risk for financial stability. Low nominal growth has hampered deleveraging and aggravates these dangers. Moreover, high public sector debt has reduced governments’ capacity to support private balance sheets and stabilize economic growth in future crises. Therefore, the lingering debt overhang provides a strong incentive for fiscal and monetary policies to work towards higher nominal GDP growth now.
View the full post on the "Systemic Risk and Systematic Value" site.
View underlying IMF report here.
Key quotes
“Private debt overhang can be characterized as a situation in which a borrower’s debt service exceeds its future repayment capacity…For evaluating repayment capacity [one can] use the sustainability criterion… whereby private debt is assessed as sustainable whenever net worth follows a non-decreasing trend. Widening differences between actual and sustainable debt defined according to this methodology would signal possible deleveraging pressures in the future. Data for a sample of advanced economies suggest that private debt is high in some cases, even after assets are accounted for...The gap between actual and sustainable debt in the household sector that opened up during the boom has not yet been closed… In more than half the sample, non-financial corporations have increased their leverage relative to the period before the crisis.”
“Private sector deleveraging in advanced economies thus far has been much slower than previous successful experiences…The percentage reduction in private debt ratios so far has been only a third of historical precedents at this point in time, and private debt levels are significantly higher…Weak macroeconomic conditions have been the major factor impinging on deleveraging efforts in advanced economies…The current low-nominal- growth environment… is…setting the stage for a vicious feedback loop in which lower growth hampers deleveraging and the debt overhang exacerbates the slowdown.”
“Although the interest rate environment has been relatively benign…low nominal growth in advanced economies has resulted in positive interest-growth differentials, implying a cumulative increase in total debt over 2008–15. This…is… hindering deleveraging by households and non-financial corporations. As an illustration, even if the private sector in advanced economies had not issued any new debt since 2008 but had simply rolled over the outstanding stock of debt at that time, private sector debt ratios in those countries would have increased by 17% of GDP.”
“General government balance sheets have… weakened, particularly in advanced economies…Low nominal growth accounts for close to 50 percent of the increase in the public debt ratio since the start of the global financial crisis…If financial repression follows, margins may be compressed and banks’ profitability will decline. All of this will ultimately result in inefficient credit rationing for creditworthy households and firms.”
“Entering a financial crisis with a weak fiscal position exacerbates the depth and duration of the ensuing recession, as the ability to conduct countercyclical fiscal policy is significantly curtailed in that case.”