ACCORDING to the Institute of International Finance (IIF), total global debt – which includes household, non-financial corporates and government as well as financial sector debt – surged to a new record high of US$315.1 trillion at the end of the first quarter (1Q) of 2024.
This translates to a debt-to-gross domestic product (GDP) ratio of 333%. On a quarter-on-quarter basis, this was the first increase in the global debt-to-GDP ratio, after three consecutive quarters of decline.
In terms of trend, the emerging market (EM) debt level rose to a high of US$105 trillion, driven by debt issued by China, India and Mexico. Debts in EM have also increased rather quickly, rising by US$55 trillion over the last 10 years.
Among Group of Seven, or G7, nations, the United States and Japan were the main drivers of debt growth. Japan has now become an outlier in terms of its total debt-to-GDP ratio having surpassed the 600% mark, while the rest of the eurozone, the United Kingdom, the United States and even China have total debt-to-GDP ratios above 300% (see table).
As for Malaysia, the current total debt level of 253.1% is well below the world average and China’s but much higher than other BRICs countries like Brazil, Russia and India.
Whether it is the government, households or businesses, the debt-to-GDP ratio is expected to increase. A recent fiscal monitor report by the International Monetary Fund (IMF) released in April 2024 suggests that global debt levels are only expected to increase, especially among governments as they continue to run budget deficits and service old debts in the form of interest payments.
In the era of relatively high interest rates (compared with the past two decades), the debt-servicing element is one of the strongest contributions to the growth of debt for governments.
Household debt too is expected to rise as people continue to spend on consumption and capital goods, while growth in corporate debt is mainly driven by capital expenditure, working capital needs, and mergers and acquisition activities.
This week, we witnessed US debt surpass the US$35 trillion mark, while the new UK government’s admission that it is “broke and broken” suggests that governments around the world will have no choice but to fix their issues through new or higher taxes.
Otherwise, they will simply be kicking the can down the road.
According to the IMF’s fiscal monitor report, government debt as a percentage of GDP is expected to increase to 93.8% this year, up 0.6 percentage points from 93.2% last year. It is projected to rise to 95.1% in 2025.
Except for Germany, which has a relatively low government debt-to-GDP ratio, and Japan, which is an outlier, the G7 countries’ ratio is expected to remain elevated at more than 100%.
However, there is an emerging economic block that is rising in membership and the numbers here look more decent, at least as far as government debt level is concerned.
BRICs – the acronym for Brazil, Russia, India and China – has seen much better government debt management levels.
Other than Russia, which has a government debt-to-GDP ratio of just about 20%, the other three main economies among the founding BRICs members are between 80% and 90% (see table).
Judging by the government debt-to-GDP ratio, Malaysia’s position is well below the global average and only higher than Russia among the founding BRICs members.
Technically, governments do not go bankrupt. However, if there is runaway inflation and currency has capitulated, some form of reset button is needed.
Currency devaluation to a new equilibrium level is one form of relief, but it may not be enough.
In all likelihood, nations in trouble will seek the help of the IMF or World Bank to manage their finances. In most instances, countries seeking international assistance are those that are unable to pay their debts in foreign currencies and are not in a position to instil reforms on their own.
The bitter pill to swallow comes when international lenders like the IMF and World Bank demand austerity measures to be carried out, raising taxes and addressing key public governance issues, especially those related to corrupt officials.
The examples of the Asian Financial Crisis (AFC) of 1998 are still fresh in many people’s minds, especially in countries like Indonesia, Thailand and South Korea.
Having said that, debt levels have again risen globally post-AFC and the Global Financial Crisis (GFC) of 2008/09, as governments needed to stimulate economic activities. Driven by cheap funding and new zero interest rates, global debt levels have risen substantially, hitting fresh record highs every year.
In other words, the global debt level is nowhere near easing as long as the governments globally continue to run budget deficits.
This is made worse by the rising cost of debt, due to the current elevated interest rates in many countries, especially in the United States, the European Union, the United Kingdom and Australia.
For example, in the United States, with the debt level rising by 50% from the US$23 trillion level just four-and-a-half years ago to US$35 trillion today, the expected interest cost on public debt alone of US$1.1 trillion in 2025 will make up 20% of all government revenue collection.
Having breached the US$35 trillion mark, the US debt level is expected to skyrocket to US$54.4 trillion in 10 years and debt servicing alone could balloon to more than U$1.6 trillion by then.
Cumulative interest payments over the next decade will total US$12.4 trillion, making money printing a necessary tool for the United States.
There is a strong correlation between the health of the public sector and currency strength/weakness, but there is also a disclaimer to that statement as it likely applies to emerging market and not developed economies, especially the United States. Why so?
We all know that post-Bretton Woods, the value of a currency is no longer backed by gold reserves but a host of other factors.
These include the trade balance, current account balance, budget deficits/surplus, growth of the underlying economy, debt levels, ability to service the sovereign debt, rate of inflation and interest rates, and capital flows.
This is the sum of parts that make up the investors’ confidence in a currency, which dictates the value of any currency.
In the case of the United States, the world’s largest economy is not only running twin deficits (current account deficit and fiscal deficit), but it also has a huge debt-to-GDP ratio and growth in debt service charges.
On the other hand, the United States continues to enjoy capital inflows (US$227bil in the first five months of 2024 and some US$820bil in 2023), driven by the yield-spread advantage against most other countries.
The other pertinent point on the dollar is that it remains the reserve currency of the world, although its actual usage in terms of trade and reserve positions of other central banks has declined.
The dollar remains dominant as a base currency for most commodities trade as well as for the US$2.5 trillion cryptocurrency market.
Hence, while the United States remains the world’s most indebted nation, accounting for 30% of total global debt and drowning in debt, the US dollar is unlikely to weaken much, but it may be in for a rough ride ahead should the Federal Reserve begin to cut interest rates.
This will result in a reversal of capital flows as foreign asset owners, with some US$29 trillion in value, dump US assets while US capital owners, with some US$15.5 trillion in overseas holdings, may increase their non-US holdings to take advantage of expected foreign currency gain as the US dollar is expected to weaken.
Inevitably, the US dollar is held up reasonably well mainly due to the rate differential vis-à-vis its peers and EM sovereign yields, but the tide may be turning soon and when that occurs, the US elevated and unsustainable debt level will simply be an excuse to dump the US dollar.
Pankaj C. Kumar is a long-time investment analyst. The views expressed here are the writer’s own.
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