Debt Troubles

McKinsey Global Institute's latest report indicates how total global debt levels were still rising in 2017 (although they have been stable compared to GDP since 2014). There is a much worse trend for countries with FX debt and whose exchange rates have dropped, since the burden of every $1m borrowed will have increased. Interest rates on this debt are no longer at the extremely low levels where they had been held for years by central bank policies.

The US Federal reserve has been tightening policy, raising interest rates modestly, and some other major central banks are following suit, based on their view that some kind of economic recovery is under way. But the persistent high levels of debt show the fragility of that recovery.

Global Debt Outstanding by Economic Sector

Source: McKinsey Global Institute, June 2018

 

After the rapid accumulation of debt in the early 2000s, little of that debt was written off in the acute phase of the crisis from 2008 as central banks stepped in to salvage not just the financial system but the economy in general. So there remains a chronic and high debt burden, held by governments, households and corporations. In recent years, debt has risen most in ‘developing’ countries, whereas it has tended to be reduced somewhat or stabilise in richer countries (see here for a review I did in September 2016).

The key equation remains:

Higher interest rates + Higher debt = Repayment trouble!

There are lots of visible problems in the imperialist world economy, from Trump’s trade war, to the rivalries in the Middle East and elsewhere. This debt problem is one less evident, but one that is more pervasive.

Tony Norfield, 20 June 2018

Fed Mountaineering

The US Federal Reserve has stopped so-called quantitative easing, namely the buying of US Treasuries and mortgage bonds. But it has not yet allowed the maturing assets to run off its balance sheet. Instead it has reinvested funds to keep the outstanding sum of assets pretty stable since 2014, at around $4.2 trillion. As recently as the end of March 2017, the Fed still had $2,464bn of Treasury notes and bonds plus $1,769bn of mortgage-backed securities on its books, totalling $4,233bn. In 2017, the Fed is likely to begin reducing this mountain, while trying to avoid an avalanche.

The following chart shows how the mountain grew after the 2007-08 crisis struck:

A Fed study in 2012 estimated that for every $300bn of Treasury bond purchases, yields fell by some 30 basis points. This was believed to be due to a 'stock effect' that lowered the supply of bonds in the market, raised their price and so reduced yields. This is only one influence on the market, but it is evident that there will be upward pressure on yields once the Fed starts selling off its accumulated stock.

The potential impact is widespread. It will run from higher US government borrowing costs and higher mortgage rates to higher corporate bond yields (since these have the government yield as a baseline). Interest rates in international markets will also be influenced by the level of US rates. This is especially so for the more vulnerable 'emerging market' economies. All of these have huge levels of debt that are likely to become more expensive to service.* Much of the latter's debt is also US dollar-denominated, which puts them at further risk if their currency values fall.

Tony Norfield, 6 April 2017

Note: * See the reviews of debt trends in a range of countries in the September 2016 articles on this blog.

Moribund Capitalism

The credit market works like this: one person's debt to another is the other person's asset. As long as the debtor can pay, then the creditor feels fine, if a little anxious when the weather changes. Now consider what happens in the wake of a credit-fuelled economic boom and its subsequent collapse. What if the mountain of debt is also a deep well of crap? That is the situation today.

This is the basic reason behind the never-ending policy from the world economy's major central banks to keep interest rates at close to zero. Every time there is a suggestion of raising interest rates (some time in the current century ...) from zero point nothing percent to zero point something, financial markets threaten to implode. Despite data in some countries recording improved profitability of capitalist companies, this is the more tangible reality of capitalist prospects.

News has not been good, in any case: from falling equity markets, to ever more desperate measures from governments and central banks, especially in Europe and the US. Below is a striking picture given for the US, by the Federal Reserve Bank of St Louis.

The chart shows the asset holdings of the US central bank, the Federal Reserve, since 2007 (the annotations are mine). In the initial phase of the crisis, the Fed boosted its lending to financial companies dramatically and did a series of rescue operations. These have now diminished to negligible proportions, as what remained of the US financial system was put back on its feet by zero interest rates and financial bail outs. However, there are two measures that have not been reversed. In fact, they have increased, even though the crisis was meant to be over: an increase in Fed holdings of US Treasury (government) securities, now totalling $2,457bn (data up to 22 October 2014), and mortgage backed securities of $1,417bn. Consider these figures against the US GDP in 2013 of $16,800bn, and also remember that the latter is just private debt to the state, not private debt to others, which is even bigger.

Many American citizens paying their mortgage interest will no doubt be somewhat surprised to learn that the recipient is actually the US government. Still, you can't keep an innovative, private capitalist system down, can you. As for the US Treasury paying interest on its bonds and notes to the US Fed, well they manage to find a way to get the money back again. The wonders of finance!

These numbers show more fully than monthly changes in business activity what is really going on, and the intractable nature of the crisis that imperialist countries face. Unfortunately, I have no such telling pictures of the European Central Bank's dodgy assets which, in any case, will soon be boosted by its new purchases of 'covered bonds'; nor of the Bank of England's activities. The Bank of England has up to now had a more conservative approach of hardly buying anything other than UK government securities in the secondary markets in its 'quantitative easing' (it has £375bn of gilts on this book and nothing else). However, the Bank of England has extended what it will accept as collateral, with the relevant 'haircuts', and also increased the ways in which it will offer 'liquidity' to the financial system in a crisis.

In summary, Lenin's description of imperialism as 'moribund capitalism' comes to mind. The astonishing application of extraordinary measures can only produce such mediocre results, ones that leave many millions in crisis.

Tony Norfield, 26 October 2014

Operation Twist

If somebody took money out of one pocket and then put it back into another, it would be hard to think that there had been any significant change. That is what the US Federal Reserve has just done, and it is meant to be a major policy initiative! I would not normally want to discuss in this forum the details of yields available on US government securities, but the latest policy move from the US Fed demands that these be given some attention.

Today, the Fed announced a new anti-crisis policy that has been dubbed ‘Operation Twist’, and the more closely one examines what is going on the worse is the conclusion one must draw about the prospects for US (and global) capitalism. Faced with official interest rates that are already zero, and having a balance sheet that holds nearly a trillion dollars of toxic bank securities from previous rounds of its ‘quantitative easing’, the Fed has basically run out of room to implement further expansionary monetary policies. This is no small problem, since the previous policies have had no lasting effect on the economy. So, its latest trick is to alter the mix of assets it holds, leaving the total size of its balance sheet unchanged. The basic idea is to sell one portion of its US government securities and to use the funds to buy some more.

One may sensibly ask: ‘What possible good can this do?’ The official rationale is that the Fed thinks that short-term yields are already low enough – since it has promised to keep interest rates at zero until mid-2013 – but that long-term yields are still too high. It believes that the high long-term yields are a constraint on investment and on spending in the economy. By selling $400bn of government securities on its books that have maturities up to three years, it can buy $400bn in the market with maturities from six up to 30 years. One-third of the $400bn is to be spent on US Treasuries with 20-30 years to maturity. The effect will be to push shorter-term yields up and longer-term yields down.

Following the Fed announcement, two-year yields did rise from 0.l6% to 0.20%, and yields beyond six years fell. But the problem comes to light when one looks at the level of yields that is supposed to be holding US capitalism back. The 10-year US Treasury yields fell to 1.86% today, the lowest for more than 60 years. But before this drop the yield was only 1.94%. The 30-year yield fell from 3.20% to 3.00%. These yields are lower than CPI inflation, currently running at 3.8% year-on-year.

The low level of yields reflects stagnant investment and a crisis of capital accumulation. The Fed trying to make long-term interest rates even lower will do little to change this, and its own lack of confidence is revealed in its assessment that “there are significant downside risks to the economic outlook, including strains in global financial markets”.

Another dimension of the Fed’s new policy was that it would use any early repayments from its holdings of mortgage securities to reinvest back into debt issued by mortgage agencies such as Fannie Mae. So, rather than looking forward to getting rid of toxic assets, it is committing to keep the same volume of junk on its books!

The Fed’s policies are not exceptional. Similar stunts are under way from the Bank of England, the European Central Bank and others as they grapple with the intractable crisis. However, the latest trick must rank high in the annals of moribund capitalism!