NEW REPORT POINTS TOWARDS THE NEXT FINANCIAL CRASH
Six years on from the global financial crisis, is the economy returning to normality, or are we simply playing “extend and pretend”? Have we tackled the leverage dynamic that brought the financial system to the brink of collapse, or are we simply moving from one short-term fix to another, piling up ever more debt along the way? Have we really “got away with it”, or are we facing a second and perhaps worse meltdown? If the latter, where will it come from this time?
These are the questions that dominate – or most certainly should dominate – strategic thinking about where the economy is going. Readers familiar with my surplus energy economics analysis will know where I stand on this – the winding down of cheap energy availability has stripped the economy of growth, making our enormous debt exposure unsustainable, and meanwhile we’re playing “extend and pretend”.
What we really need here is objective data, and this is where an authoritative new report is so invaluable. Deleveraging? What Deleveraging? – number 16 in a series of Geneva Reports on the World Economy – reveals that global debt levels have continued to increase unchecked since the 2008 crisis, and that the much-vaunted process of deleveraging simply hasn’t happened at all.
The report supplies interesting data on indebtedness, dividing debt into two categories. The first is ex-financials, and comprises the debt of households, governments and businesses other than banks. The second category is total debt, and includes debt within the banking system. Both categories are important.
Globally, ex-financials debt rose from about 160% of world GDP in 2001 to almost 200% in 2008, with a big surge perceptible in the last three years of the period as the world manufactured its coming crisis. Since 2008, debt has carried on climbing, nearing 215% in 2013. So much for “deleveraging”.
Within this global trend, there has been a clear shift. Prior to 2008, most of the debt escalation was happening in the developed world, but now it is the developing world that is driving debt levels upwards.
China is a case in point. Since 2008, ex-financial debt – that is, the aggregate of households, businesses and government – has increased from 143% of GDP to 217%. This means that China has borrowed an average of 14% of GDP each year since 2008, something not dissimilar to Britain’s record under Gordon Brown between 2002 and 2008.
Moreover, charts of moving averages suggest that China’s economic growth is decelerating far more rapidly than is generally recognised. Other developing economies – including India, Russia, Brazil and Turkey – are in much the same predicament, albeit with lower debt ratios than China.
As part of something which the report calls “a poisonous combination”, the global capacity for growth is diminishing just as debt levels continue to escalate. Essentially, this means that “potential output” – basically a measure of future growth capability – is diminishing. This may reflect two things – first, that we have suffered permanent damage from the crisis, and, second, that high debt levels are undermining our ability to grow.
A reduced capability for growth means, of course, that our ability to carry debt is weakening just as debt itself is increasing.
The figures for all of this are stark, and the clear implication is that another crash is coming, the epicentre this time probably being the developing economies. Small wonder that central bankers are beginning to mutter about the over-extended valuations of global capital markets.
Of course, and as I have explained previously, over-inflated capital markets are themselves part of the “extend and pretend” game, because inflating capital markets has been a device for keeping yields (and therefore interest rates) low.
The Geneva 16 report should prompt us all to sit back and factor the following into our mental computers:
– continuing increases in debt
– clear deceleration in growth
– an ongoing deterioration in potential output
– a diminishing carrying capacity for debt
– the over-extension of capital markets as part of “extend and pretend”
You won’t need me to spell out for you how this must end.