Aafter relaxing In the 2010s, interest rates barely budged and rising prices got central bankers to work. In fact, policymakers have never been busier. Policy rates fell to an average of 2.6% in the first quarter of 2021 across a sample of 58 rich and emerging economies. By the last quarter of 2022, that figure has jumped to 7.1%. Meanwhile, the total debt of these countries is $298 trillion, or 342% of their combined gross domestic productAbove $255 trillion, or 320% gross domestic productbefore the covid-19 pandemic.
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The more indebted the world is, the more sensitive it is to rising interest rates. To assess the impact of borrowing and higher interest rates, economist The interest bills of companies, households and governments in 58 countries have been estimated.Together, these economies account for more than 90% of the world’s gross domestic product. Their interest bill will be $10.4 trillion in 2021, or 12% of total interest gross domestic product. By 2022, it has reached a staggering $13 trillion, or 14.5% gross domestic product.
Our calculations make a number of assumptions. In the real world, higher interest rates don’t immediately push up debt servicing costs, except for floating-rate debt, such as many overnight bank loans. Government debt tends to have maturities between five and ten years; companies and households tend to borrow short-term. Therefore, we assume that interest rates rise on public debt for five years and for households and firms for two years.
In order to predict what may happen in the next few years, we make more assumptions. Real-life borrowers respond to higher interest rates by reducing their debt to ensure interest payments don’t get out of hand. Nonetheless, research by the BIS (the club of central banks) shows that higher interest rates do raise interest payments on debt relative to income – that is, deleveraging does not fully offset higher costs.We therefore assume that nominal income is based on International Monetary Fund Forecast and Debt –gross domestic product The ratio was flat. This means an annual budget deficit of 5% gross domestic product, reduce than before covid.
Our analysis suggests that if rates follow the path priced in the government bond market, the rate tag will reach about 17% gross domestic product by 2027. What if the market underestimates the austerity measures that the central bank will implement? We found that adding another percentage point to the percentage already priced in by the market would bring the bill to 20% gross domestic product.
Such a bill is large, but not without precedent. US interest costs over 20% gross domestic product During the global financial crisis of 2007-09, the economic boom of the late 1990s and the last real burst of inflation in the 1980s. However, an average bill of this size would mask large variations across industries and countries. For example, the government of Ghana would face a debt-to-income ratio of more than 6 and a government bond yield of 75% – which would almost certainly mean a sharp cut in government spending.
Inflation may ease the burden by pushing up nominal taxation, household income and corporate profits.Global debt accounted for gross domestic product Has fallen back from its peak of 355% 2021. But that relief has so far been offset by a sharp rise in interest rates. In the US, for example, real interest rates, as measured by the yield on five-year TIPS, are 1.5%, compared with an average of 0.35% in 2019.
So who is bearing the burden? We rank households, companies and governments in 58 countries on two variables: the debt-to-income ratio and interest rate growth over the past three years. On the household side, richer democracies including the Netherlands, New Zealand and Sweden appear to be more sensitive to rising interest rates. Debt levels in all three countries are almost double their disposable income, and short-term government bond yields have risen by more than three percentage points since the end of 2019.
However, countries that have not had time to prepare for rate hikes may actually face more difficulties than those with more debt. Mortgages in the Netherlands, for example, often have longer-term fixed rates, meaning households in the country are likely to pay higher rates than our rankings suggest. In other countries, by contrast, households typically either have short-term fixed-rate loans or borrow on flexible terms. In Sweden, variable-rate mortgages make up nearly two-thirds of the stock, meaning problems could emerge sooner. In emerging economies, data are more fragmented. While debt income is relatively low, this partly reflects the fact that formal credit is difficult to obtain.
In the business world, surging consumer demand boosted profits. The ratio of debt to total operating profit has declined in the past year in 33 of the 39 countries for which we have data. In fact, some parts of the world seem unusually powerful. Despite the troubles of Adani Group, a conglomerate that has come under fire from short sellers, India scored well thanks to a relatively low debt-to-income ratio of 2.4 and a modest rise in interest rates.
Heavy debt loads and tighter financial conditions may still be unbearable for some companies. Second&p Research firm Global noted that the default rate on European speculative-grade corporate debt rose from less than 1% at the start of 2022 to more than 2% by the end of the year. French companies are particularly indebted, with a debt-to-gross operating profit ratio of nearly nine, higher than any country except Luxembourg. Short-term yields in Russia, cut off from foreign markets, have soared. Hungary’s central bank has been quick to raise interest rates to protect its currency, and Hungary could face huge interest payments relative to the size of its economy.
Last but not least is government debt.Dalip Singh PGIMOne variable to watch is the risk premium on debt (the extra return the market demands from holding a country’s bonds over U.S. Treasury yields), one asset manager said. Developed country governments have mostly done a good job on this measure. But Italy, which has seen one of the biggest increases in bond yields among eurozone countries in our sample, remains at risk. As the ECB tightens policy, it has stopped buying sovereign bonds and will begin unwinding its balance sheet in March. The danger is that this will trigger austerity.
Emerging economies are increasingly borrowing in their own currencies, but those struggling with foreign debt may need help. Argentina recently reached a bailout deal that will require troubling belt-tightening, International Monetary Fund. It tops this category and has defaulted on its foreign debt in 2020. Egypt’s medium-term government bond yields are about 4 to 5 percentage points above pre-pandemic levels, but it is trying not to follow suit. Ghana, which recently joined deeply troubled Argentina, is now tightening fiscal and monetary policy in hopes of gaining the country’s support. International Monetary Fund.
The fate of some governments, and ultimately households and businesses that need state support, may depend on China’s goodwill. Despite high debt levels, China itself is near the bottom of our ranking thanks to flat interest rates. Yet its importance to global debt stress has only grown. China is now the largest lender to the world’s poor economies, eating up two-thirds of those countries’ ballooning external debt repayments, complicating debt relief efforts. Western governments must be hoping they can shoot down this balloon too. ■
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