The world's ballooning debt was already threat to the global economic growth and financial stability before Covid-19. Things have since only gotten worse.
With great external debt comes great responsibility. Countries resort to foreign borrowing to maintain financial liquidity and stimulate growth. For rich nations facing a downturn, taking a loan at low interest rates can be more desirable the raising taxes. For emerging nations, this kind of financing is even more essential to cover for domestic resource gaps and pay for programs that can help reduce poverty and foster longer-term growth. There is, however, a well-known problem with debts: borrowing money is easier than paying it back.
“Debt is like any other trap,” the 19th-century American author Josh Billings has said: “Easy enough to get into, but hard enough to get out of.” How hard? To the extent that there is no such thing as zero external debt, and both the most and the least-developed countries in the world alike (and all those in between) today struggle more than ever under the burden of what they owe. According to estimates of the Institute of International Finance (IIF), the Washington-based global association of the financial industry, overall international borrowing decreased for the first time in more than two years during the first quarter of the year—by $1.7 trillion to $289 trillion. Behind these figures lies a complex and troubling scenario: the fall was largely driven by developed markets (meaning those that can pay back debt more easily), where overall debt dropped $2.3 trillion to below $203 trillion; whereas the debt level across emerging economies surged to $86 trillion (+$0.6 trillion), a new record. Also, despite the Q1 overall dip, total global debt was still up $30 trillion (12%) since the end 2019. Meanwhile, the global debt-to-GDP ratio has jumped too—to 360%. Simply put, the world borrows over three times more than it produces.
External debt—also called “foreign” or “sovereign debt”—is the total capital that is owed to creditors outside of a country’s border. The debtors can be governments, corporations and private citizens; the creditors include governments, commercial banks and international financial institutions such as the International Monetary Fund and the World Bank. High levels of external debt pose greater risks than internal debt because repayments in foreign currency are more exposed to exchange rate shocks.
What can possibly go wrong? The first thing that occurs when you borrow too much and too often is that loans and interests repayments undermine the very purpose for which such loans were taken in the first place: boosting economic productivity. Many economists see the accumulated debt as a tax on the future output of a nation: investments in education, health, infrastructure and the like are discouraged when an ever-growing portion of revenues goes to pay back creditors. A country that lives persistently beyond its means will eventually become unable to make good on its fiscal promises, defaulting on its debt. When that happens, it will be even harder to borrow more money and dig itself out of crisis. Just ask the Greeks, the Argentinians or the Venezuelans, who in recent years found themselves precisely in such a predicament.
Not all default crises, however, are created equal. Poor fiscal responsibility is not the only culprit. Debtors often inherit the faults of their fathers, as when loans incurred by governments and regimes no longer in power fall to a subsequent administration. Many countries are also still suffering from the economic impact of colonialism and the misappropriation of their funds and resources, which pose an overhang constraint on growth and development. Many others, often small and already impoverished, will be forced to contract even more debts to pay for the loss of trade, tourism and the destruction caused by climate change, a problem primarily created by greenhouse gas emissions from richer nations. And have we mentioned Covid-19 yet? While government revenues remain under pressure due to continued lockdowns and other movement restrictions, the pandemic has exacerbated many pre-existing economic and social problems everywhere. Its effects and repercussions, today impossible to fully comprehend, will be felt for decades to come
The ballooning external debt in the world’s largest economies poses yet a different, and perhaps more immediate and greater in scale, danger. The most indebted nations are, in fact, the richest ones. Accounting for close to half of all global liabilities, the top three borrowers in the world are the United States, the European Union and the United Kingdom. While their debt, given these governments’ stability and proven capability to pay back those who lent them money, is generally considered risk-free, there are growing concerns about the sustainability of such high level of borrowing, in particular when yet another shift in market conditions or a rise in interest rates could make repayments harder to service. The larger is the exposure to cross-border capital flows, the smaller is the ability of a country to withstand external shocks: the contagion effect, if any of these giants would finally show to have feet of clay, would be devastating.
Gross External Debt Position
|15||Hong Kong SAR; China||1,776,157|
|77||West Bank and Gaza||1,913|
Source: World Bank’s Quarterly External Debt Statistics SDDS, 7/30/2021 update (2021Q1)