Friday, September 9, 2016

The Sovereign Debt Danger Zone

In perusing various financial websites, I stumbled on this one graphic that perfectly captures the current state of the global economy and how it has entered the sovereign debt danger zone:

If you are having difficulty understanding the graphic, it looks at the level of public debt as a percentage of GDP versus nominal (i.e. not corrected for inflation) GDP growth levels for many of the world's advanced economies.  The graphic compares the average pre-Great Recession (aka "crisis") sovereign debt as a percentage of GDP for the years between 1995 and 2006 plotted against nominal year-over-year growth in GDP and then compares that the same data over the last two quarters.  In all cases with the exception of Japan which has a very small increase in nominal economic growth, you can see that nominal GDP growth has decelerated and debt levels have risen.  This pushes all but one of the data points upwards and to the left, in the direction of debt danger. 

What this tells us is that central bank policies since the Great Recession have had two key results:

1.) the monetary policies have led to a very worrying increase in the level of sovereign debt as governments lined up at the trough to avail themselves of ultra-cheap credit.  In some cases, this increase was very significant; pushing debt-to-GDP levels above the 100 percent mark. 

2.)  the monetary policies have been quite ineffective at prodding the economy back to the growth levels experienced in the decade prior to the Great Recession.

What is particularly concerning is that, as sovereign debt levels rise, it becomes increasingly difficult for governments to stimulate their economies during an economic contraction.  Given that we are mathematically overdue for a recession, this graphic shows us that the world's central bankers will have to become even more creative if they hope to lift the global economy out of another downturn, creativity that will surely result in even more unintended and negative consequences.

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