The world economy kicks off 2021 with record high debt levels that will slow post-coronavirus recovery and could destabilize some countries, the Institute of International Finance (IFF) warned.
“The surge in global debt levels has been unprecedented since the onset of the pandemic, increasing by over $17 trillion to $275 trillion last year. IIF economists Emre Tiftik, Paul Della Guardia and Khadija Mahmood said in a weekly note dated Jan.7.
The sharp increase in debt has brought the global government debt-to-GDP ratio to nearly 105% in 2020 up from 90% in 2019, the team of economists reported.
“The aggressive, synchronized fiscal and monetary policy responses to date have been successful in curtailing financial stress and have played a big role in reviving appetite for risk assets, including EM securities,” the IIF said. “However, this much-needed policy support has often come at the cost of a sharp rise in financial and budgetary imbalances.”
The Washington-based institute also worries that EM borrowers will be much more willing to take on dollar denominated debt amid a dollar weakness and since the consensus now sees the first hike to US interest rates no earlier than 2025.
At present, some 10% of EM debt is denominated in dollar.
As EM external borrowing costs have already fallen to record lows amid a low-interest environment, FX borrowing has become increasingly appealing.
However, that build up of EM FX debt could leave EM borrowers more exposed to sudden shifts in global risk sentiment, IIF warns.
“Indeed, following the temporary market shutdown in March 2020, Eurobond issuance in many emerging and frontier markets is running at a record pace—well above pre-pandemic trends,” IIF said. “A number of sovereigns are planning to tap international bond markets in the coming months, including those eligible to benefit from G20 Debt Service Suspension Initiative (DSSI). Keeping debt on a sustainable trajectory may become a challenge for many in the current low interest rate environment.”
The World Bank and the IMF urged G20 countries to establish the DSSI. It was approved in April 2020 and offers a temporary suspension of “official sector” or government-to-government debt payments to 73 countries. Since it took effect on May 1, 2020 the initiative has delivered about $5 billion in relief to more than 40 eligible countries.
In July 2020, the European Network on Debt and Development (Eurodad) first published a report which outlines the limitations of the G20's DSSI. In October 2020, Eurodad published an update of this report titled “Draining out the Titanic with a bucket?”
So the toughest task ahead seems to be starting paying all this eye-popping debt.