Near record global debt prompts concerns over leverage in financial system, IIF says

The increase in the first three months of the year marks the second consecutive quarterly jump in global borrowing

The India Gate in Delhi. A sharp rise in borrowing in India, China, Mexico, Brazil and Turkey has pushed total emerging market debt to a record $100 trillion. Unsplash

Global debt grew by $8.3 trillion in the first three months of 2023, prompting concerns over leverage in the financial system as the debt pile edges closer to record highs.

At almost $305 trillion, global debt is a shade under the $306 trillion recorded in the first quarter of 2022, the Institute of International Finance said in its latest Global Debt Monitor report.

The increase marks the second consecutive quarterly jump in global borrowing, following two quarters of sharp decline during rapid monetary policy tightening last year in countries around the world.

The rebound was primarily driven by non-financial corporates and the government sector, as “central banks respond to fragile market sentiment by slowing the pace of rate hikes”, IIF economists Emre Tiftik, Khadija Mahmood and Raymond Aycock said.

“Global debt is now $45 trillion higher than its pre-pandemic level and is expected to continue increasing rapidly,” they said.

Central banks around the world have eased the pace of increases in their benchmark policy rates that were raised to curb inflation.

The US Federal Reserve, which has been increasing its benchmark rates aggressively since March last year by as much as 75 basis points, raised it by only 25 basis points in May.

It may pause rate increases as it edges closer to their highest level since 2007, shortly before the start of the 2008 global financial crisis.

The rise in interest rates makes borrowing in US dollars more expensive for governments, corporations and financial institutions, as well as household borrowers.

However, the smaller increases and their slowing pace have encouraged borrowers to take advantage of the window and secure capital.

The IIF said the global debt pile in the first quarter of this year has grown as government borrowing needs remain elevated amid concerns over a potential credit crunch following the recent turmoil in the US and Swiss banking sectors.

A combination of factors, including ageing populations, rising healthcare costs and substantial climate finance gaps, continues to put pressure on government balance sheets.

Increased geopolitical tension is also expected to drive further increases in national defence spending over the medium term, potentially affecting the credit profile of both sovereign and corporate borrowers.

“If this trend continues, it will have significant implications for international debt markets, particularly if interest rates remain higher for longer,” the Washington-based institute said.

While the global debt to gross domestic product ratio has stabilised near 335 per cent of GDP, nearly 75 per cent of emerging markets experienced a rise in their US dollar-denominated debt levels during the first quarter of 2023.

The biggest increases were seen in China, Mexico, Brazil, India and Turkey, propelling total emerging market debt to a high of more than $100 trillion, up from about $75 trillion in 2019.

The rate of increase was sharper in mature markets, driven by Japan, the US, France and the UK.

With US banks increasingly reporting tighter lending standards, small businesses could face credit crunch, while the rate of default could rise in highly indebted “zombie firms” across the board.

“We estimate that around 14 per cent of US companies can be considered zombies, with a substantial portion of these in the healthcare and information technology sectors,” IIF economists said.

The IIF expects private debt markets to gain prominence amid the credit crunch as non-bank financial institutions continue to strengthen their position on global credit intermediation.

“The so-called shadow banks now account for more than 14 per cent of financial markets, with the majority of growth stemming from a rapid expansion of US investment funds and private debt markets,” the IIF economists said.