How are countries going to cope with the sea of pandemic-related debt — will they drown in it?
Lockdowns and coronavirus restrictions have caused some government revenues to collapse at the same time public spending increases to try to save jobs and livelihoods. Poor and developing countries are the hardest hit, but even rich, powerful nations are straining to cope with the economic wreckage being wrought by a coronavirus that’s transforming the economic prospects of the world.
Last year, the governor of the Bank of England, Andrew Bailey, acknowledged publicly that the British government came close to insolvency because private investors did not want to buy its bonds, something almost unheard of for Britain. The bank was forced to step in to purchase $270 billion longer-term securities from the open market. In short, one arm of the British government borrowed to lend to another.
The pandemic’s financial cost is similar to that of a world war, say economists. The International Monetary Fund warned in a report in October, “In 2020, government deficits are set to surge by an average of 9 percent of GDP, and global public debt is projected to approach 100 percent of GDP, a record high.”
The overall global figure masks huge variations among countries.
The deficits of seven developed countries — Brazil, Britain, Canada, Italy, Spain, Japan and the United States — are surging and have risen by more than 10% of GDP. Japan’s gross public debt will shortly reach 266% — and America’s 131%, according to IMF projections.
These percentages would have been unimaginable in the not-too-distant past.
“The COVID pandemic will leave many scars on the world economy and our societies. One of the deepest will be a lasting legacy of rising global public and private debt,” according to Stéphane Monier, chief investment officer of Switzerland’s Lombard Odier Private Bank.
But in a note to the bank’s private clients last month, he said that while such debt accumulation is unsustainable in the long term, debt levels are unavoidable “as governments try to compensate firms and citizens for the challenges of the pandemic.” Monier added, “Thankfully, the debt is mostly currently affordable because of the exceptionally loose monetary policy and the associated rock-bottom interest rates.”
Looking at the debt, Monier said, as “a share of GDP,” exaggerates the increases, because economies’ revenues have fallen as the pandemic shut sectors.
He and other economists maintain that the major central banks will ensure that interest rates are kept historically low, and as long as they remain so the governments of advanced countries and emerging markets should be able cope with the servicing of the debt while they wait for economic recovery and it starts taking hold.
The theory is that government revenues will recover when the public health crisis is over. Economies will bounce back as consumers start splurging again after months of being unable to spend. A huge amount of spending has been postponed and economists say private savings are high with cash held by households and corporations in many advanced countries jumping to record levels.
Those forced savings will eventually be spent, helping to lift economies, they say.
Economist Mohamed El-Erian, an adviser to Germany’s Allianz, a financial services company headquartered in Munich, recently noted in an interview with Blink, a global risk website, that economies can run at higher levels of debt because interest rates are lower and will remain low for some time.
“We are seeing budget deficits that were unimaginable, while interest rates have come down even more, meaning that these deficits can be financed,” he said.
But El-Erian, president of Queen’s College, Cambridge and a former IMF deputy director, does worry about the emergence of zombie companies, private firms that have no commercial future but survive because they are propped up by governments. Zombie businesses could constrain economic growth, he warns. And he questions whether demand will bounce back as strongly as some economists are predicting, which would have a knock-on effect on governments’ tax receipts.
He said, “On the demand side, I’m worried that we’re going to end up with much higher levels of unemployment than most people expect, and I worry that people may become more risk-averse. I don’t know whether we will get to the frugality of the Great Depression generation, but certainly people will be less willing to consume. So, you’ve got more sluggish demand, more sluggish supply and more debt.”
Those cautions aside, most economists, though, expect advanced countries will be able to handle the public debts they are amassing. There’s much more alarm about how poorer ones will fare.
Last month, Zambia became the sixth government to default on its bonds this year—following Argentina, Belize, Ecuador, Lebanon and Suriname. Others are likely to follow suit as the public and private costs of the pandemic continue to mount.
Rating agencies say 38 governments are at risk of default, twice the number at risk during the 2008-09 global financial crash. Eight developing countries are spending 30 percent of their government revenues on debt interest payments.
The debt distress of poorer nations is prompting attention and rising concern.
“Much of the conventional wisdom about how governments should manage the COVID-19 economic fallout is perfectly appropriate for advanced economies, but dangerous elsewhere,” according to Michael Spence, a Nobel laureate in economics, and Danny Leipziger, a professor at George Washington University’s School of Business.
“Even if developing and emerging economies could simply borrow and spend more to weather the storm, doing so could jeopardize their long-term economic prospects,” they wrote for Project Syndicate, which publishes commentary and analysis. Too much debt will drown the poorer countries, constraining their economic growth.
Spence and Leipziger are among leading economists pushing for a radical and innovative change to debt relief for poorer and developing countries. The G20 group of the world’s largest economies has been listening. As well as launching an initiative allowing 46 of the world’s poorest countries to delay about $5 billion indebt repayments this year, the group has been devising a new “common framework” which aims at ensuring there’s a more joined up approach by creditor nations and private lenders on debt restructuring.
But many development economists say this is not enough. There has to be stronger action, they say, to block private lenders and bond holders from going to courts to demand full payments when creditor nations have agreed to a debt restructuring. They also want more innovative approaches, with debt interest tied to the economic growth performance of indebted countries or to commodity prices.
Other ideas include allowing debtor nations to ask creditor governments to lengthen the maturity on loans as well as deferring interest payments in return for extra interest when the loan or bond eventually concludes.