Some people would argue that 2016 was the year that the world economy started to come apart, with the passage of Brexit and the election of Donald Trump. Whether or not the “coming apart” process has started, we are most likely going to see many more steps in this direction in 2017. Global debt levels are dangerously high and central banks cannot keep the this trend going indefinitely. Debt ratios have reached extreme levels across all major regions of the global economy. This leaves the financial system acutely vulnerable to monetary tightening by the US Federal Reserve, the world’s top financial watchdog. The wild market swings of recent weeks and capital outflows from China are warning signs that the massive build-up in credit is coming back.
Combined public and private debt has jumped by 36 percentage points in developed economies. Emerging markets have been drawn into the credit spree as well. Adding to the toxic mix, off-shore borrowing in US dollars has reached a record $9.6 trillion. This has set the stage for a worldwide dollar squeeze as the Fed reverses course and starts to drain dollar liquidity from global markets. Higher interest rates in the United States could make it harder for China to manage its exploding debt. China increasingly depends on borrowing in order to keep growing, while simultaneously trying to block capital from fleeing for more fruitful shores in America.
Of course, high debt levels are sustainable as long as they remain affordable. Low interest rates have made this possible in recent years. However, across major economies there is a more hawkish feeling among policymakers. Further rate rises are very much on the cards following Donald Trump’s election victory, since he is expected to pursue fiscal policies which are highly inflationary. Not only does this cause a problem for companies listed in the US, it could cause challenges for non-US companies which have their debt in US dollars.
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