Global debt falls from record level amid sharp rise in interest rates

Aggregate debt for the second quarter dropped by about $5.5tn, the Institute of International Finance says

The Manhattan skyline. The US and Canada are the only countries where debt levels rose in the second quarter of this year. Bloomberg

Global debt fell from a record in the second quarter of this year as the era of more than a decade of cheap borrowing costs comes to an end amid the weakening economic outlook and rising interest rates.

Debt levels for the April to June quarter dropped by about $5.5 trillion to $300tn, after rising by more than $2.5tn in first three months of 2022, the Institute of International Finance said in its latest Global Debt Monitor report.

“This marks the first quarterly drop since the third quarter of 2018,” the IIF said. “While much of this is a valuation effect — as other G10 currencies slumped over 12 per cent against the US dollar this year — a rapid slowdown in debt issuance has also contributed.”

After consistent declines over recent quarters, the global debt-to-gross domestic product ratio, however, edged up and is set to climb to more than 350 per cent of the world’s GDP by the end of this year.

The ratio rose for the first time in the past five quarters as emerging market debt levels rose at a faster pace to 252 per cent of GDP.

“[This is] largely reflecting the hit from a sharp slowdown in EM [emerging market] growth and suggesting that inflationary pressures have not been high enough [yet] to bring debt ratios down,” the Washington-based institute said.

“We expect this rise in debt ratios to continue at least through the end of 2022.”

Although higher rates have disrupted the borrowing plans of many businesses and consumers, governments may borrow more to address concerns triggered by a rapid slowdown in growth, particularly in China and Europe.

Rising social tension, due to higher energy and food prices are also likely to push sovereigns and state-owned enterprises to borrow more to soften the impact of the economic slowdown, the IIF said.

Central banks poured more than $25tn to support the global economy during the Covid-19 pandemic but are now battling rampant inflation.

Policymakers have tightened monetary policy by raising interest rates to curb inflation, which is at four-decade highs in the US and the UK.

Elevated consumer prices in Europe forced the European Central Bank to raise interest rates by a record 75 basis points earlier this month.

The IIF said overall debt in mature markets declined by $4.9tn to about $201tn in the three months to the end of June.

The US and Canada were the only countries where debt levels rose during the period.

The decline in debt in dollar terms across emerging markets was much smaller, at about $600 billion, bringing total emerging markets borrowings to about $99tn, according to the IIF data.

The sharp increase in borrowing costs has led to a substantial fall in issuance in syndicated loan markets, while non-financial corporate long-term bond transactions sunk to their slowest level since 2014.

“Over the first eight months of 2022, the pace of government bond issuance was some 20 per cent below the same period in 2021. Adjusted for inflation, global bond issuance volumes are now at multi-year lows,” the IIF said.

Rising inflation and the strengthening of the US dollar are also undermining the creditworthiness of many sovereign borrowers in emerging markets as “disparities in market access have become starker”.

“Elevated debt vulnerabilities have already forced a handful of high-yield issuers to seek IMF [International Monetary Fund] support, including Sri Lanka and Ghana,” the IIF said.

Globally, corporate issuers are also finding it difficult to approach markets and are already struggling to service debt as the era of cheap borrowing draws to a close.

“Over the last decade, low interest rates gave many smaller, less successful firms a lifeline through cheap debt financing,” the IIF said.

“Looking ahead, a significant increase in bankruptcies may well be on the cards as borrowing costs rise, which will make it quite challenging for central banks to engineer a soft landing without adverse implications for job markets.”