A debt bomb occurs when a big financial organization, such as a multinational bank, fails to meet its obligations, causing disruption not just in the institution’s home country’s financial system but also in the global financial system as a whole.
What is meant by debt deflation?
Debt deflation is an economic theory that states that when the value of the currency unit rises and the price level falls, a general downturn in the economy might occur due to an increase in loan defaults and bank insolvencies due to a rise in the real value of debt. Irving Fisher, a 20th-century economist, proposed this idea.
Are US companies over leveraged?
According to the most recent statistics from S&P Global Market Intelligence, U.S. corporations lowered debt levels and mostly continued to improve their ability to service loans in the first quarter of 2021.
As the COVID-19 economic crisis took its toll, businesses took on debt in 2020 to cover the gap in their balance sheets caused by missing revenues. However, as revenues rise in tandem with the broader economic recovery, debt levels are falling closer to pre-pandemic levels.
In the first quarter of 2021, the median debt-to-equity ratio a measure of corporate leverage in which total liabilities are computed as a percentage of shareholder equity of US investment-grade rated corporations declined to 98 percent. From 92.9 percent before the crisis, the ratio soared to a high of 106.3 percent in 2020.
The recovery has been considerably more thorough in the non-investment-grade market, which includes companies rated BB or worse. In the first quarter, the debt-to-equity ratio was 139.7%, which was just slightly higher than the pre-pandemic level of 138.1 percent and significantly below the crisis peak of 157.5 percent.
In an interview, Greg Venizelos, senior credit strategist at investment management firm AXA IM, said, “The prognosis for US corporations is fairly favorable, barring a huge relapse in the COVID scenario.”
When the crisis hit, it was feared that the rate of defaults among U.S. firms would skyrocket, but the cheap cost of borrowing and improving corporate profits have, for the time being, alleviated that concern.
How much corporate debt is there?
Slowing economic development in the United States, as well as predicted increases in borrowing costs, could put American businesses at risk after they piled on debt during the pandemic.
Recent job and inflation numbers in the United States indicate that the economy is slowing, which could result in a decline in company income. In the following months, the Federal Reserve is expected to tighten its ultra-loose monetary policy, potentially raising borrowing costs. According to economists and analysts, the twin concerns might impair corporations’ ability to invest in growth and make interest payments as corporate debt levels rise.
“The record-high corporate debt leverage is a major issue,” Nicole Serino, associate director of credit markets research at S&P Global Ratings, said in an email. “Much of it has been speculative-grade, and it is still a rough road to recovery for some sectors.”
Ratings has warned that if sales growth slows, corporate debt loads could become “unbearable” for the corporations carrying them.
According to the Federal Reserve, companies flocked to the bond market in early 2020 to take advantage of low borrowing costs, increasing nonfinancial corporations’ debt to $11.170 trillion, a $1 trillion rise over the course of the pandemic. In 2020, the total will have risen to more than 55 percent of US GDP, which is still higher than pre-pandemic levels.
According to LCD, rated U.S. corporations issued $2.122 trillion in bonds in 2020 to cover the revenue deficit caused by the pandemic. The record annual amount was up 59.7% from the previous year’s tally. Companies issued bonds at historically high levels in 2021, with a total of $1.417 trillion as of Sept. 15.
Companies were well-capitalized as a result of the debt increase, which helped them grow M&A, capital expenditures, and share buybacks and dividends in 2021.
In the meantime, corporate defaults are at all-time lows. The 12-month rate of defaults among non-investment-grade enterprises in the United States dropped to 3.8 percent in June from a high of 6.7 percent in December 2020. The rate is expected to drop to 2.5 percent by June 2022, according to Ratings.
As investors have fled the government bond market, the Federal Reserve’s massive purchases of Treasurys have bolstered corporate bonds. However, with inflation on the rise and the economy improving, the Fed plans to reduce its $120 billion-per-month asset purchase program this year, potentially lowering demand for corporate bonds and driving yields up, raising borrowing costs.
In an email, Tiffany Wilding, a U.S. economist at asset management firm PIMCO, said, “There is a good probability they announce as early as November.”
Experts argue that while investors’ desire to continue to fund enterprises is not boundless, for the time being, they appear unconcerned about debt accumulation.
In an email, Frank Rybinski, director of macro strategy at Aegon Asset Management, said, “Clearly, there is a moment when credit investors may morph into credit vigilantes if firms become too greedy in their use of credit, but we think that is long off in investment grade-land.”
Rather than issuing debt to cover lost sales in 2020, enterprises in 2021 are refinancing debt and deferring maturities to take advantage of cheap borrowing costs. According to Ratings, nonfinancial firms lowered the amount of debt maturing by 21% to $779 billion over the 18-month period from July 2021 to the end of 2022.
Companies risk rapidly increasing the amount of nonfinancial rated debt, from $570.0 billion in 2022 to $968.5 billion in 2025, by kicking the can down the road.
Meanwhile, there are signs of a stalling recovery. PIMCO cut its U.S. GDP growth prediction for the third quarter to 3% quarter over quarter from 6.5 percent before due to high inflation and dismal jobs statistics.
In August, core consumer price inflation which excludes food and energy prices increased by 4% year over year, eroding household purchasing power. In August, job growth in the United States fell short of forecasts, with only 235,000 jobs gained vs 750,000 expected.
According to Adam Slater, head economist at Oxford Economics, a growth scare would represent a huge obstacle for US corporations’ earnings potential. Furthermore, an increase in borrowing rates linked to inflation would make it more difficult for businesses to meet their obligations.
In an Aug. 31 research note, Slater wrote, “A change to a higher inflation regime has only a 10% -15 percent likelihood, but even a very mild rise in real interest rates might be a problem.”
COVID-
As the delta variation spreads, 19 cases are also increasing. The Centers for Disease Control and Prevention (CDC) reported more than 163,000 new coronavirus cases each day on September 15, up from less than 10,000 in mid-June.
The severity of the economic slowdown will decide how concerned investors are. There won’t be a big repricing of credit if growth returns to its long-term pattern, according to Aegon’s Rybinski.
“If the slowdown resembles a recession, credit risk rises dramatically, as does the premium required to compensate for the higher credit risk,” Rybinski explained.
How much is China’s dollar denominated debt?
China’s overall government debt is estimated to be around CN 46 trillion (US$ 7.0 trillion) by 2020, or roughly 45 percent of GDP.
What happens to mortgages during deflation?
Your dollar would be worth 95% less today than it was in 1915 if you kept it in cash for the previous 100 years. This is due to the fact that the value of your money depreciates over time and may buy you less each year due to inflation.
Debt operates in a similar way. In nominal terms, the debt’s worth does not change (assuming you do not pay it off). However, the value of that loan depreciates over time in the same manner that currency does. In today’s dollars, $100 in debt would be worth less than $10 over the last 100 years. This is why using leverage during inflationary periods is so valuable. It lowers the value of your loan over time.
Deflation is different when it comes to debt
While inflation gradually erodes the value of debt, deflation has the reverse effect. It increases the debt’s value over time. This is how a mortgage can deplete your property value. Here’s another look at one of the graphs from before.
While the cost of goods and services is falling, the cost of debt is staying the same. In fact, it improves in contrast. This is why, if there is a negative inflation rate, it is critical to minimize or erase your debt.
Help me! Deflation is confusing
It can be difficult to understand the distinction between future dollars and today’s dollars. Especially if we haven’t dealt with deflation before. Another approach to demonstrate how deflation can effect your investment property mortgage is to consider the following scenario:
Let’s imagine you wanted to buy an investment property for $125,000 today and decided to take out a $100,000 mortgage on it. Most mortgage contracts are relatively similar in that, depending on the sort of mortgage you have, you must make either fixed or variable installments.
In this case, there is no inflation, but the bank adds $3,000 to the balance of your mortgage each year, in addition to any interest payments you due. You would pay the interest due at the conclusion of year one, and your principal sum would be boosted to $103,000. Do you find this to be an appealing proposition?
This means that if you have a 3% interest rate, you will owe a net of 6% every year. 3% in interest and 3% extra on top of the principal.
Hopefully, you’ve realized that while you’re employing leverage, deflation hurts a lot.
To summarize, when there is deflation, the value of your real estate declines, your cash flows drop, and if you are utilizing leverage, those drops are compounded. Remember, if there is deflation, you should not have a mortgage.
We have had inflation for over 50 years, why should you worry about deflation?
We can assume that if housing prices are a good hedge against inflation, they will also be a strong hedge against deflation. However, why should we be concerned about deflation?
Where can I invest in debt deflation?
Companies that supply products or services that we can’t easily cut out of our lives are considered defensive stocks. Two of the most common examples are consumer products and utilities.
Consider toilet paper, food, and power. People will always require these commodities and services, regardless of economic conditions.
You may invest in ETFs that track the Dow Jones U.S. Consumer Goods Index or the Dow Jones U.S. Utilities Index if you don’t want to invest in specific firms.
iShares US Consumer Goods (IYK) and ProShares Ultra Consumer Goods are two prominent consumer goods ETFs (UGE). iShares US Utilities (IDU) and ProShares Ultra Utilities (PUU) are two ETFs that invest in utilities (UPW).
What corporations have the most debt?
In 2020, AT&T, a telecommunications firm based in the United States, had the most long-term debt, totaling over 147 billion dollars. Ford Motor Firm was the second most indebted company in the United States at the time, with a debt of more than 114 billion dollars.
Is there a debt bubble?
According to the Federal Reserve and the Securities Industry and Financial Markets Association, or SIFMA, U.S. firms currently have the largest levels of debt on record, totaling more than $10.5 trillion. The pandemic caused by the coronavirus is only part of the story. Companies go to the corporate debt market to borrow money.
What happens when corporate debt bubble bursts?
“Today’s stock of outstanding corporate bonds has lower overall credit quality, higher payback requirements, longer maturities, and inferior covenant protection,” according to the Organisation for Economic Cooperation and Development in February 2020, which “may amplify the negative effects that an economic downturn would have on the non-financial corporate sector and the overall economy.” If the corporate debt bubble collapses, bonds will be repriced, causing mutual funds, high-yield funds, pension funds, and endowments owning corporate bond assets to lose a lot of money. As with the 2008 financial crisis, this might lead to increased caution from lenders and a contraction of the overall bond market, resulting in higher mortgage, car loan, and small-business loan rates for individual consumers. The International Monetary Fund conducted a stress test for a hypothetical shock half the size of the 2008 crisis and discovered that $19 trillion in corporate debt from eight countriesChina, the United States, Japan, the United Kingdom, France, Spain, Italy, and Germanyrepresenting roughly 40% of all corporate debt, would be at risk of default because it would be difficult for companies to raise cash to repay loans that came due.
Others, on the other hand, believed that a catastrophe could be avoided, citing the fact that banks are more capitalized and central banks are more responsive than they were during the financial crisis of 2007-08. The McKinsey Global Institute expressed scepticism in 2019 that corporate debt defaults will lead to systemic catastrophes similar to the subprime mortgage crisis. “I don’t think we have anything shaping up like 2008 or 1929, particularly in the United States,” Harvard University’s Kenneth Rogoff said on March 12, 2020. As the situation worsened, he updated his statement, saying on March 30 that “there is a high chance it will look as bad as anything during the last century and a half.”
Is there a global debt bubble?
In the second quarter, debt as a percentage of GDP declined to roughly 353 percent, down from a peak of 362 percent in the first three months of this year.
According to the IIF, 51 of the 61 nations it studied had their debt-to-GDP ratios fall, owing to a significant recovery in economic activity.
However, it cautioned that the recovery has not been robust enough in many cases to bring debt ratios down below pre-pandemic levels.
Only five nations, according to the IIF, have overall debt-to-GDP ratios that are lower than pre-pandemic levels: Mexico, Argentina, Denmark, Ireland, and Lebanon.
China’s debt levels have risen faster than those of other countries, while emerging-market debt excluding China hit a new high of $36 trillion in the second quarter, primarily to increased government borrowing.
After a minor reduction in the first quarter, debt in developed economies, particularly the eurozone, climbed again in the second quarter, according to the IIF.
Although household debt climbed at a record rate, debt creation in the United States was the slowest since the start of the crisis, at roughly $490 billion.
In the first half of this year, global household debt increased by $1.5 trillion to $55 trillion. In the first half of the year, roughly a third of the nations studied by the IIF experienced an increase in household debt, according to the IIF.
“In practically every major country in the globe, rising housing prices have accompanied increased household debt,” said Tiftik of the IIF.
According to the IIF, total sustainable debt issuance has topped $800 billion this year, with global issuance expected to reach $1.2 trillion in 2021.
How much debt is Canada in?
The obligations of the government sector in Canada are referred to as “government debt” or “public debt.” The market value of financial liabilities, or gross debt, for the consolidated Canadian general government in 2020 (the fiscal year ending 31 March 2021) was $2,852 billion ($74,747 per capita) (federal, provincial, territorial, and local governments combined). In 2020, gross debt as a percentage of GDP was 129.2 percent (GDP was $2,207 billion), the highest amount ever recorded. The federal government’s debt accounted for about half of all debt, or 66.4 percent of GDP. The large deficits ($325 billion) generated to support multiple relief measures, particularly in the form of transfers to people and subsidies to businesses during the COVID-19 epidemic, drove the increase in debt in 2020.
The impact of historical government deficits is mostly reflected in changes in government debt over time.
When government spending surpasses revenue, a deficit occurs.
Because the beneficiaries of the goods and services provided by the government today through deficit financing are typically different from those who will be responsible for repaying the debt in the future, deficit financing usually results in an intergenerational transfer.
(Borrowing for a one-time purchase of an asset that supplies commodities and services in the future that are matched to the loan repayment expenses, for example, issuing debt today that is repaid over 50 years to finance a bridge that lasts 50 years, would not result in an intergenerational transfer.)
Is any country not in debt?
Is the national debt important? Is this a sign of financial security? Not all of the time.
According to the IMF database, there is only one “debt-free” country. The relatively low national debt of many countries could be owing to a failure to present true data to the IMF.
Another situation in which a low national debt is a poor omen is when a country’s economy is so weak that no one wants to lend to them.
The ten least indebted countries in the world in 2020, according to IMF data:
