The Global Realities of Credit, Debt and Deleveraging

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The Global Realities of Credit, Debt and Deleveraging

During the financial bubble ending in 2007, governments, corporations, and individuals took on debt to stay afloat. In the fourth quarter of 2007, global debt reached $142 trillion.

In the years that followed the bursting of the bubble, one would expect that debt would decrease. However, not only has deleveraging not happened, but global debt has actually grown by $57 trillion, as of the second quarter of 2014, to a total of $199 trillion.

The reason this matters is because high debt levels can not only stifle economic growth, but can also trigger another financial collapse.

According to a report by the McKinsey Global Institute (MGI), all of the world’s major economies now have higher levels of borrowing relative to GDP than they did in 2007.1 Overall, the ratio of debt-to-GDP has gone up by 17 percent.

In all 22 of the advanced economies in the study, debt-to-GDP ratios increased by as much as 50 percent. The average debt-to-GDP ratio in advanced economies is now 280 percent, compared to an average of 121 percent in developing countries.

In developing economies, government debt is to be expected because it is needed to build out infrastructure that is required for economic growth. Corporate debt is needed for business expansion, and household debt is a positive sign that more people are joining the consumer class and gaining access to credit. Nearly half—47 percent—of the increase in global debt came from such countries.

Fortunately, corporate debt is not really a problem, since corporations are not highly leveraged. The issue of shadow banking has receded in the U.S. and many other economies, with the exception of China.

This means that there are three primary areas of risk arising from the high levels of debt according to MGI. The first risk is caused by the increase in global government debt.

Government debt has gone up by $25 trillion worldwide since 2007, with $19 trillion of the increase in advanced economies and the remaining $6 trillion in developing countries. In some cases, countries took on debt to stimulate the economy or to finance bailouts of troubled sectors...

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