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Governments around the world are borrowing to fight the pandemic. It is to be feared that not everyone can pay their debts. However, the International Monetary Fund warns against cutting spending too soon.
Sectors like aviation would have been ruined long ago without government help. Spending on fighting the pandemic is also rapidly mounting mountains of debt.
Sometimes a few numbers speak louder than a thousand words. According to calculations by the International Monetary Fund (IMF) released on Wednesday, the national debt will exceed the threshold of 100% of gross domestic product (GDP) on a global average. Mountains of public debt have never been higher, not even at the end of World War II. The main reasons for this are, on the one hand, the significantly higher spending to combat the corona pandemic, which has so far averaged a whopping 12% of GDP. On the other hand, economic production has also collapsed, which is associated with lower tax revenues.
The accumulated gross debt of euro area governments is likely to reach roughly the high global average during the corona pandemic. Italy and France, but also Great Britain and the United States are significantly higher. If interest rates were to rise again to 4%, for example, that would mean for the United States that it would have to spend about 5% of its total annual economic output on debt service alone. That would hardly be sustainable.
Debt rescheduling not just in developing countries soon?
The problem is even more acute in the poorest developing countries. The IMF predicts that between 80 and 90 million people will fall back into absolute poverty as a result of the crisis. If the poorest developing countries were to pay their debts adequately, almost half of these countries would have to spend between one-fifth and one-half of their tax revenues on debt service over the next year, a good tenth of all debt. poor countries, even more than half. Immediately 54% of these countries are already in default and are negotiating with their creditors on relief.
Given the current debt dynamics, the IMF’s dry comment could soon apply to large, highly developed individual countries as well: “For countries with unsustainable debt, options for orderly rescheduling should be considered.”
“Don’t stop too soon now”
But what do the economists of the Monetary Fund say about this situation in their latest report? Unlike in the past, they only quietly warn of fiscal discipline by calling for government funds to be used to fight the pandemic only for those people and businesses that really need it, where fiscal space is already limited. However, more generally, his message is: “Don’t stop fiscal support too soon!” This is the greatest risk in the short term, because it is important to prevent the pandemic from leading to a major recession with permanent damage to the economic structure. However, in the post-pandemic recovery phase, more care must be taken to ensure that workers and capital can switch to promising industries and that outdated structures are not artificially kept alive.
The hope is that after the crisis, economic growth will exceed interest rates. In this case, the mountains of debt would contract again compared to economic output. Unfortunately, this hope has proven misleading in most countries: Even in the good years after the financial crisis, most of them have continued to borrow. Ultimately, this could lead to either an overt debt restructuring or a hidden debt restructuring through central banks. According to the IMF, the European Central Bank has bought 71% of all newly issued national debt since February; the Fed in the US 57%.
Prefers state investments
The IMF is likely correct in its fear that private investors are lagging behind on investment decisions due to great uncertainty about the future development of the pandemic. In such a situation, public investments may not crowd out private ones, but stimulate them. Therefore, the IMF is campaigning for an increase in state (productive) investments.
Economists estimate that an investment increase of 1% of GDP in the current situation would initiate economic output growth of 2.7% and increase private investment by 10%. However, these estimates should be treated with caution, because in normal times a sharp increase in public investment crowds out private investment and because public investment projects require a long lead time. The IMF itself waits 6 to 15 years.
It would make more sense if states presented existing and validated investment projects in the near future. That could help the construction industry, but it won’t save the capital goods industry from a collapse in incoming orders. Overall, the impression persists that mountains of debt are growing threateningly and that in many places they are handled with little concern. Because ultimately, increasing burdens will be shifted to future generations of taxpayers and creditors.
