EDITOR NOTE: How’s this for a future post-pandemic forecast: you’ll end up owing a lot more money with an income that’s only a fraction of what it was during the pre-pandemic years? According to this author, it’s a likely outcome, and he explains the reason behind this dismal outlook rather clearly. The legacy of COVID-19 will be deeper and more far-reaching than most think. And those who will be affected most are the people who remain 100% within the fiat monetary system with a zero hedge--in short, most Americans falling under the illusion of a V-shaped recovery.
What will the world look like when the pandemic is eventually brought under control? It’ll have a lot more debt and a lot less income.
Life after the coronavirus is obviously going to be extremely challenging for governments, businesses and households and will create some diabolical dilemmas for central banks as they try to grapple with the balance between unsustainable levels of debt, the ambition of economic growth and the risk of financial bubbles that could ignite another financial crisis while the world remains vulnerable.
The biggest challenge and the biggest constraint on governments, businesses, households and the central bankers will be the legacy of debt.
Globally, but especially in the advanced economies - and most particularly in the US - debt levels were already at historically levels even before the coronavirus outbreak.
Ahead of the pandemic global debt was more than $US250 trillion ($360 trillion), or more than 320 per cent of global GDP. That was about $US75 trillion and 40 percentage points of GDP more than the levels ahead of the global financial crisis in 2008.
Once the pandemic established itself outside China, debt levels began soaring. They continue to soar.
Global public debt is now the highest in recorded history after government fiscal programs have added about $US11 trillion to bring the total to more than 100 per cent of global GDP. In advanced economies, according to the International Monetary Fund, public debt is forecast to grow nearly 19 per cent this year to reach about 130 per cent of global GDP. That may prove conservative.
Here, the Morrison government’s response to the pandemic – so far – appears likely to turn what was expected to be a $5 billion surplus last financial year into an $85 billion-odd deficit, with the 2020-21 deficit predicted to be more than $200 billion. Federal government debt, about $570 billion at the onset of the pandemic, is expected to blow out to $1 trillion, or more.
In the US, the federal deficit is blowing out from just under $US1 trillion last financial year to an expected $US3.7 trillion in the current financial year to September, with the potential for it to be even larger if there is another package of fiscal support.
US public debt was about $US16.8 trillion last year. It was $US20.3 trillion last month and about $US26.5 trillion this month as the initial fiscal response to the coronavirus flows through.
It’s not just government debt levels that are continuing to surge.
Global fund manager Janus Henderson released a report this week that showed global corporate borrowings had risen 8.1 per cent to a record $US8.3 trillion ($12 trillion) in January, before the pandemic, which it said was the fastest rate of increase in five years. It forecast a further 12 per cent, or $US1 trillion ($1.45 trillion), increase this year. Nearly half that new debt is owed by US companies.
As the fiscal support falls away the levels of corporate distress and failure could be expected to increase.
US companies started this year with nearly $US10 trillion of debt, or just under 5 per cent of US GDP, after a massive debt-funded splurge on buy-backs and dividends after the Trump administration’s corporate tax cuts.
The Janus Henderson forecast might prove overly conservative, given that US companies borrowed close to $US750 billion in the March quarter alone and, unlike Australian companies, which have raised more than $30 billion of equity so far this year, are still preferencing debt over equity.
There’s already been a wave of credit rating downgrades and a sharp increase in large companies defaulting on their debts in the US. As the fiscal support falls away the levels of corporate distress and failure could be expected to increase.
The stress on small and medium-sized businesses will be even more acute, given that many of them have lost their income during lockdowns of their economies while the interest on their debt, even if payments have been deferred or the loans have been restructured, continues to mount. Many won’t come out the other side of the pandemic.
Australia went into the pandemic with one of the highest ratios – about 200 per cent – of household debt to income in the world. The losses of income and the deferrals and extensions of loan repayments by the banks can only exacerbate the stress levels, even if those households that maintain their incomes become more conservative in their spending.
Thus, even as the pandemic results in big spikes in levels of unemployment and losses of income for businesses and households within the advanced economies, its legacy will be a massive increase in debt levels throughout those economies.
For governments, and central banks, that legacy - coming after a decade of anaemic growth and rising debts after the GFC - will be a constraint on future policies.
Pandemic-related debt will, as governments try to bring unsustainable borrowings and budgets under control, restrict spending within an environment that, at least for the next few years, could be expected to be low-growth at best, impacting government revenues.
For central banks the pandemic will clearly lock them into a negative-to-ultra-low rate environment in which they continue to pump liquidity into their financial systems.
We know, after the post-financial crisis decade, how that plays out. The negative real rates of interest and plentiful credit encourage leverage and force investors into ever-increasing risk-taking. They encourage speculative bubbles.
Adding another era of the kinds of policies that the US Federal Reserve board, the European Central Bank and Bank of Japan have pursued since the financial crisis would further distort everything that, pre-GFC, would have been regarded as normal in monetary policy and financial market settings.
In responding to the damage done to the real economies, central bankers could ignite another financial crisis when the combination of unsustainable debt levels and swollen bubbles in equity markets collide at some point in the future.
At some point the pandemic will be behind us but its legacies, none of them appealing or with obvious or easy exit paths, could be generational and volcanic in a world that was still grappling, a decade later, with the fallout from the GFC when the pandemic hit.
Originally posted on SMH