“The changing face of global debt”

The key chart

Summary

In this post, I summarise my analysis of the latest Bank of International Settlement (BIS) Quarterly Review with respect to level and trends in global debt and global debt ratios. The key points are:

• The level of global debt hit a new high of $183 trillion in 1Q19
• Global debt ratios – debt expressed as a percentage of GDP – have rebounded since 3Q18, but remain below peak 1Q18 levels.
• Deleveraging continues, however, in all sectors across the Euro Area
• Emerging markets remain the most dynamic segment of global finance, accounting for 36% of total private sector credit compared to only 10% two decades ago
• China remains the main driver of this growth, accounting for 24% of global PSC, but the misallocation of credit towards SOEs continues
• Global finance continues to shift East and towards emerging markets making it unrecognisable from the industry that existed twenty years
• Further research analyses (1) whether current trends are sustainable and (2) the associated investment risks.

A new high for global debt levels

The level of global debt hit a new high of $183 trillion at the end of 1Q19. Corporate (NFC) credit is the largest sub-segment (39% of total) at $72 trillion. Government debt is the second largest sub-segment (35% of total) at $65 trillion, while household credit is the smallest sub-segment (25% of total) at $47 trillion.

Aggregating NFC and HH credit together, private sector credit totals $118 trillion or 65% of total global debt, down from 70% at the end of 2008. The shift in the balance of total debt from the private sector to government debt since the GFC reflects a shift from HH to government debt. In 2008, the split of total debt between HH, NFC and government debt was 31%, 39% and 30%. Today, the split it is 25%, 39%, 35% (1Q19).

Leverage is also rising again…

Global debt ratios – debt expressed as a percentage of GDP – have risen for two consecutive quarters (an end to recent deleveraging trends) but remain below peak 1Q18 levels. The outstanding stock of global debt across all sectors fell between 1Q18 and 3Q18 before rebounding in 4Q18 and 1Q19. Debt ratios have rebounded but remain below peak levels.

Viewed over a twelve month period, we can observe different forms of deleveraging in action. In the HH and government sectors the absolute stock of debt has risen (to new highs) over the past twelve months but at a slower rate than the growth in nominal GDP. This represents a passive form of deleveraging as the debt ratio declines despite the stock rising in absolute terms. In contrast, the absolute level of NFC debt in 1Q19 ($72 trillion) is slightly below the level recorded in 1Q18 ($73 trillion). Hence the fall in the NFC debt ratio from 97% to 94% over the twelve months represents a mild form of active deleveraging.

Recent developments provide some support for the concept of debt thresholds ie, the level of debt above which debt becomes a drag on growth. The BIS estimate that this threshold in 90% for the NFC sector and 85% for the HH and government sectors. At the end of 1Q2019, NFC debt stood above this threshold at 94%, government debt was just below at 84%, while HH debt was well below at 60%. In short, the different form of deleveraging in the NFC sector described above reflects the fact that NFC debt ratios remain too high and above the BIS thresholds.

…except in the Euro Area

However, gradual deleveraging continues in all sectors in the Euro Area. Interestingly, Euro Area deleveraging began first in the HH sector where debt ratios peaked at 64% in 4Q12. As elsewhere, this has been a passive form of deleveraging where the absolute stock of HH debt rises (to a new peak level in 1Q19) at a slower rate that the growth in nominal GDP. Total, PSC, NFC and government debt levels peaked later (1Q15) and have involved both passive and active forms of deleveraging. The stock of total debt reached new highs at the end of 1Q19 in total and in the PSC and HH sectors. In contrast, it is falling in the NFC and government sector where deleveraging is in its active form and where debt ratios of 105% and 98% remain above their respective BIS threshold levels.

Emerging market dynamism…

Emerging markets remain the most dynamic segment of global finance, accounting for 36% of total private sector credit compared to only 10% two decades ago. Emerging market PSC totalled $42 trillion at the end of 1Q19 a rise of 225% over the past ten years or a CAGR of 12% per annum. Of this, NFC credit totalled $30 trillion (71% total PSC) and HH credit totalled $12 trillion (29% total PSC). NFC credit is typically larger than HH credit in emerging markets due to their relative stage in industry development. For reference the split between NFC and HH credit in advanced economies is currently 55% and 45% respectively.

Debt ratios are catching up with the developed world and in some cases now exceed the BIS threshold levels too. PSC, HH and NFC debt levels reached 142%, 42% and 101% of GDP at the end of 1Q19 versus respective ratios of 162%, 89% and 72% respectively for advanced economies. Note that emerging NFC debt ratios currently exceed the BIS threshold but this reflects (1) the impact of China, which is discussed below, and (2) the fact that the BIS choses to include Hong Kong (NFC debt 222% of GDP) and Singapore (NFC debt 117% of GDP) in its sample of emerging economies.

…driven by China

China remains the main driver of EM debt growth and now accounts for 24% of global private sector credit alone. PSC growth in China has grown 366% over the past ten years at a CAGR of 17% to reach $28 trillion at the end of 1Q19. Of this NFC credit was $21 trillion (74%) and HH credit was $7 trillion (26%), but it should be noted that China’s SOEs account for 68% of total NFC credit*.

Twenty years ago, China accounted from 3% of global debt and 31% of total EM debt. Today, these shares have risen to 24% and 67% respectively. China’s outstanding stock of debt exceeded the rest of EM in 3Q11.

The NFC debt ratio peaked at 163% of GDP in 1Q17 and fell to 152% in 4Q18 as the growth in NFC debt lagged growth in GDP. However, in the 1Q19, this ratio rose back to 155% and remains well above the BIS threshold of 90%.

*The supply of credit to (the more profitable) private sector NFCs remains constrained and well below the BIS threshold, highlighting the on-going misallocation of credit in the Chinese economy. Further analysis of China’s debt dynamics follows in future posts.

Shifting East and towards EM

Global finance continues to shift to the East and towards emerging markets making it unrecognisable from the industry that existed twenty years. In March 2000, global debt was structured split between advanced economies ex Euro Area (70%), the Euro Area (20%), emerging markets ex China (7%) and China (3%). Today, those splits are 47%, 18%, 12% and 24% respectively. The face of global debt is changing dramatically.

My next research analyses (1) whether current trends are sustainable and (2) the investment risks associated with these trends

Please note that the summary comments above are abstracts from more detailed analysis that is available separately.