After the crisis, the debt

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US$164 trillion: that is the new record reached at the end of 2016 in global public and private sector debt according to the International Monetary Fund (IMF)[1]. This Mount Everest of debt amounts to 225% of total global GDP, 12% higher than the peak in 2009. The scars of the 2008 financial crisis are still visible in the public accounts while new prospects for growth have led to renewed private sector appetite for financial leverage.

And for once, Europe is not in the eye of the storm. According to the IMF, borrowing has been strongest by emerging countries. It is as if access to Western lifestyles involved the adoption of some of its shortcomings. China’s debt level alone rose from US$1.7 trillion in 2001 to US$25.5 trillion in 2016…15 times more than 15 years ago! Even the less than virtuous France saw its global debt multiplied by 2.5 over the same period though with a considerably higher point of departure. According to the IMF, China’s has accounted for nearly three quarters of the increase in private debt over the last 10 years since the global financial crisis. A point that must be closely watched by equity investors.

And while the IMF expects ratios of the government debt-to-GDP to largely decline in developed countries. Against the backdrop of this trend, one country stands out: tax cuts introduced by President Trump and approved by Congress will give rise to overall deficits in excess of US$1 trillion over the next three years. On this basis, US public debt as defined by the IMF will increase from 108% to 117% of GDP in 2023, a level comparable to the projections for Italy for the same year. As John Connally, Treasury Secretary of Richard Nixon in 1971 remarked:  “The dollar is our currency, but it is your problem .” Needless to say, the problem is not without consequence. American debt is more liquid and more widely held. This means that the smallest sneeze by the world’s largest borrower has potential of creating a genuine tsunami. Just the increase in the 10-year treasury yields to around 3% at the start of the year is one of causes underpinning the current instability of world financial markets.

In contrast, in Europe the pace of the debt clock has significantly slown down in several countries. Germany is expected to meet all the Maastricht criteria this year as its public debt ratio is projected to fall below 60% (as defined by the IMF) in 2018 and in five years shrink further to 42%. A course that France, at its level, is attempting to follow as well. The French Ministry of the Economy and Finance, Bruno Le Maire, and Minister of Public Action and Accounts, Gérald Darmanin, presented a roadmap to the European commission in April targeting a budget close-to-balance by the end of the government’s five-year term in 2022. A particularly ambitious target – the last balanced-budget was in 1974 – that will be rendered unreachable in the scenario of an immediate assumption of the €50 billion in SNCF Railway debt. If this goal is achieved, the French debt ratio which is nearly 100% this year, would fall back to 90% in five years. A small step for France, but a large step for the eurozone!

In euros, European financial markets outperformed US markets last year, in line with their reciprocal GDPs. The start of the year has confirmed up till now this trend, with less volatility on this side of the Atlantic. Seven years after the threat of implosion as a result of its debt, will Europe now show the way? One is reminded of the observation of Talleyrand : “When I look at myself, I’m worried, when I compare myself to others, I’m reassured”.

Olivier de Berranger

[1] IMF Fiscal Monitor: Capitalizing on Good Times, April 2018

 

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