What are we going to do with all our debt?
Since 1950 private debt as a percentage of the economy has grown from 50% to about 160% of the world’s 22 most advanced economies. The ratio had been steadily advancing for years, but accelerated between 1998 and 2008, when it grew from 100% to 170%. It has retreated modestly since the financial crisis, as corporations and consumers have delevered.
This is a global phenomenon; no single government is responsible. The debt has grown as global commerce has grown. In the late ‘90s there was dramatic increase in trade along with technological improvements in finance that encouraged credit to grow faster than the economy. (As an aside, in 1998 Long Term Capital almost destroyed the world’s stock and bond markets).
The level of debt is an issue because it makes everything more fragile. Legitimate businesses can become insolvent and entire economies can experience debt-deflation when leverage is excessive. There are basically four ways to reduce debt relative to the economy: growth, austerity, default, inflation, or some combination.
None of these are popular. One might think growth would be, but the economic liberalization necessary to increase growth significantly requires a political consensus that is rare. After World War I, a lot of countries simply defaulted on their debt.
For now, it looks like the world is rationally headed towards a combination of growth and austerity. But nothing is certain.
Douglas R. Tengdin, CFA
Chief Investment Officer