The debt dragon: A monster is rearing its ugly head in China and it is called debt. Whether government, corporate, or even household, it is all on the rise, shooting up from 130 per cent of economic output in 2008, to 200 per cent today.
What would you like to know about China’s debt addiction and its implications for the country and world economy? How did it get so big? Who are the culprits? How much worse could it get? The FT will tackle the Chinese credit habit in a three-part series starting on Tuesday. If you have questions on the subject, simply post them in the comment box below – along with your ft.com name or pseudonym – and I will ask a selection of them to the author of the series Simon Rabinovitch, China correspondent, in a podcast on Wednesday.
Irish central bank governor Patrick Honohan writes:
The focus should be increasingly on measures that can help unblock growth. One dimension which, in my personal view, has not yet received the attention it deserves is the potential for mutually beneficial risk-sharing mechanisms. A variety of financial engineering options could be considered going beyond the plain vanilla bonds currently employed.
The US is little more than $200bn away – or about 2 months – away from reaching its congressionally mandated national debt limit of $14,300bn.
The need to increase it to avoid a potentially disastrous US default is the next fiscal battleground in Washington, after the lawmakers stop squabbling over a government shutdown.
Republicans want to use the opportunity to push for more spending cuts, while Democrats say this is not the place to negotiate.
On Thursday, Moody’s Investors Service offered its analysis of the likelihood that a major crisis will ensue, threatening America’s triple-A credit rating much earlier than even the most ardent fiscal hawks would imagine.
August saw a large reduction in debt repayments by individuals and businesses in the UK, which caused net lending figures to rise, according to the Bank of England. This is likely to be temporary, as further data suggest net lending declined again in September.
Net lending to businesses in August increased for the first time since February – by £0.3bn. This number – the difference between gross lending and repayments to lenders – reflects repayments falling more quickly than gross lending, which also fell on a quarterly basis. Businesses have been keen to repay their debt – to reduce leverage, perhaps, or to reduce the debt stock that will need refinancing for smaller businesses.
A similar picture is painted for secured lending to individuals. Net lending in August rose significantly – by £1.7bn – but other data suggest the net flows fell again in September. Again, the net figure does not suggest an increase in lending: gross lending remains broadly unchanged and even fell slightly, but repayments increased. Indeed, “household demand for secured lending for house purchase was reported to have fallen unexpectedly in 2010 Q3, according to the Credit Conditions Survey, though demand for buy-to-let investments rose slightly for the first time since 2008 Q3.”
All eyes on tomorrow’s €1.5bn Irish bond offering. As investors have become more nervous, the head of the central bank has called on the government to rethink some of its austerity plans:
“I think these kinds of budgetary programmes do need to be reprogrammed in the light of circumstances,” Patrick Honohan told an audience today at a regulatory conference in Dublin.
Households and businesses are set to shed a lot more debt, according to research from the Bank for International Settlements. In a chapter of the latest quarterly review entitled Debt reduction after crises, Garry Tang and Christian Upper predict further mortgage write-downs and business deleveraging:
We find that a period of debt reduction followed 17 out of 20 systemic banking crises that were preceded by surges in credit. Debt/GDP ratios fell by an average of 38 percentage points, returning to approximately the levels seen before the increase. If history is any guide, we should expect to see a much more significant reduction in private sector debt, particularly of households, than has so far taken place after the recent crisis. [emphasis ours]
If 38 percentage points sounds like a lot, it is: it’s nearly a third of the current level. Consider the context:
US households increased their indebtedness from close to 100% of disposable income in 2000 to more than 130% in 2007. Similarly, over the same period, British and Spanish households raised their debt by approximately 60 percentage points to more than 160% and almost 130%, respectively, of disposable income.
So, how is the world doing on debt reduction? Well, the US has reduced its debt/GDP ratio by about 5 percentage points in the past three years (only 33 to go). In the UK, Spain and Ireland, falling debt has not outpaced shrinking GDP. Look at the blue lines
Authorities wanting to kick-start the economy using debt, take note: Russian shareholders dislike debt-financing, unlike their developed market peers. This is the implication of research from the Finnish central bank, which seeks to explain low levels of debt-financing in Russian companies.
The research considered company stock performance on days when the company announced debt financing. Most research on this subject has considered developed markets only; typically, these stocks respond positively to such announcements. Debt financing confers tax benefits – and also removes the need for potentially dilutive equity issuance.
Russian stockholders react in an equal and opposite way, however. Controlling for normal movements of the stock market index (RTS), the study finds that Russian company stocks fall by roughly the same amount that Western stocks rise, when a debt announcement is made. Why the debt-aversion? The authors point to perceptions of risky behaviour associated with taking extra debt, and recommend improved corporate governance:
David Levy, chairman of the Jerome Levy Forecasting Center, based in the northern suburbs of New York, is described on his website as the world’s foremost expert in applying the “profits perspective” to economic analysis.
It’s not entirely clear to me what that means, but he claims to have a reasonably good track record.
His latest report, released today, seeks to dismantle the argument being made by many US economists and politicians – as well as the Federal Reserve – that the US budget deficit needs to be kept under control and ushered towards a more sustainable path.
Calling it “sovereign debt hysteria”, he proceeds to offer several reasons why mounting debt won’t be a problem for the US economy, even if it rises much higher than its current level of 62 per cent of gross domestic product. Below are his key points:
Are Bulgaria and Luxembourg unsung heroes of the global recession? Estonia has received wide praise for its fiscal position, and Poland’s economy is likewise admired for its refusal to contract. But this useful graphic from the Economist shows two additional players for the fiscal saints.
Public debt in Bulgaria and Luxembourg is between 0 and 19 per cent of GDP – a distinction shared only with Estonia. Both countries also share low deficits, as proportions of their GDP. But unlike Estonia, Bulgaria and Luxembourg enjoy below-average unemployment rates: 9.7 and 5.2 per cent respectively, compared to 19 per cent for Estonia.