The debt binge and the reckoning ahead

Markets know.  Central bankers apparently don’t.

When what was balanced becomes imbalanced, market forces push back.  Low prices cure low prices (increased consumption) as high prices cure high prices (increased production).  A wonderful mechanism when allowed to work properly.

The low cost of debt as a result of the seemingly never-ending loose money policy of central bankers has created an imbalance, and those same bankers are feeding that imbalance to the delight of borrowers.  Those who would not normally borrow find the imbalance too ripe to ignore and therefore step in to take advantage of the arrangement.

Investors seeking any “reasonable” return purchase the debt at near historical low returns.  If and when rates rise, those holders of this debt, floated at these abnormally low rates, will suffer, and in no small way.

Massive debt creation is the great unspoken side-effect of the faked interest rates, courtesy of the central bankers.  They have created their own petard, and will be hoisted by it.

According to a McKinsey & Company report:

The world has been on a debt binge, increasing total global debt more in the last seven years following the financial crisis than in the remarkable global boom of the previous seven years (2000-2007)! This explosion of debt has occurred in all 22 “advanced” economies, often increasing the debt level by more than 50% of GDP. Consumer debt has increased in all but four countries: the US, the UK, Spain, and Ireland (what these four have in common: housing bubbles). Alarmingly, China’s debt has quadrupled since 2007.

Global debt in these years has grown by $57 trillion, raising the ratio of debt to GDP by 17 percentage points.

Corporate debt has dramatically risen from 2007 to 2014 in what was to have been a period of “deleveraging” and a return to prudence.  The corporate world, just like the governments around the world, has found the low rates too attractive to pass up.  So they indulge, and the purchasers of those debt instruments secure a paltry rate of return in a world of erased returns. 

Source: http://fortune.com/2015/02/11/stock-buyback-binge/

Issue debt, and buy back the stock.  What board of directors would be against that?  The rising value of their stock and the triggering of their stock options are good things, for them.  But who loans them the money to do such things?  Anyone seeking an interest return in an environment run by central bankers is the quick answer.  They are forced to make bad decisions, misallocate resources, in attempts to get a return.

Market forces that would normally push for higher rates as the supply of debt increases are not allowed to come to play.  Thus, imbalances persist.

Worldwide debt figures from 2007 to 2014, per the McKinsey & Company report:

Financial Institutions have increased their debt from $ 37 Trillion to $ 45 Trillion.

Governments from $33 Trillion to $ 58 Trillion

Corporations from $ 38 Trillion to $ 56 Trillion

Households from $33 Trillion to $ 40 Trillion.

Source: http://www.mckinsey.com/insights/economic_studies/debt_and_not_much_deleveraging

One could make the argument that central bankers have not promoted a deleveraging, but rather have fostered and promoted more leveraging, more debt issuance, and more debt ownership.

It is the owners of this new debt that have the problem.  Any small interest rate rise, not even an approach to historical norms, but rather a modest uptick, would cause debt portfolios to wobble.  Janet Yellen freezes at the prospect.  And as she freezes, borrowers line up to take further advantage of the forced imbalance in the marketplace.  On and on it goes.

A reckoning awaits.

If the cost of debt today is reduction in future consumption, the future is not bright.

How much longer can central bankers force these imbalances?  And will private and corporate borrowing become so massive that central bankers will lose the reins?

Markets know.  Central bankers apparently don’t.

When what was balanced becomes imbalanced, market forces push back.  Low prices cure low prices (increased consumption) as high prices cure high prices (increased production).  A wonderful mechanism when allowed to work properly.

The low cost of debt as a result of the seemingly never-ending loose money policy of central bankers has created an imbalance, and those same bankers are feeding that imbalance to the delight of borrowers.  Those who would not normally borrow find the imbalance too ripe to ignore and therefore step in to take advantage of the arrangement.

Investors seeking any “reasonable” return purchase the debt at near historical low returns.  If and when rates rise, those holders of this debt, floated at these abnormally low rates, will suffer, and in no small way.

Massive debt creation is the great unspoken side-effect of the faked interest rates, courtesy of the central bankers.  They have created their own petard, and will be hoisted by it.

According to a McKinsey & Company report:

The world has been on a debt binge, increasing total global debt more in the last seven years following the financial crisis than in the remarkable global boom of the previous seven years (2000-2007)! This explosion of debt has occurred in all 22 “advanced” economies, often increasing the debt level by more than 50% of GDP. Consumer debt has increased in all but four countries: the US, the UK, Spain, and Ireland (what these four have in common: housing bubbles). Alarmingly, China’s debt has quadrupled since 2007.

Global debt in these years has grown by $57 trillion, raising the ratio of debt to GDP by 17 percentage points.

Corporate debt has dramatically risen from 2007 to 2014 in what was to have been a period of “deleveraging” and a return to prudence.  The corporate world, just like the governments around the world, has found the low rates too attractive to pass up.  So they indulge, and the purchasers of those debt instruments secure a paltry rate of return in a world of erased returns. 

Source: http://fortune.com/2015/02/11/stock-buyback-binge/

Issue debt, and buy back the stock.  What board of directors would be against that?  The rising value of their stock and the triggering of their stock options are good things, for them.  But who loans them the money to do such things?  Anyone seeking an interest return in an environment run by central bankers is the quick answer.  They are forced to make bad decisions, misallocate resources, in attempts to get a return.

Market forces that would normally push for higher rates as the supply of debt increases are not allowed to come to play.  Thus, imbalances persist.

Worldwide debt figures from 2007 to 2014, per the McKinsey & Company report:

Financial Institutions have increased their debt from $ 37 Trillion to $ 45 Trillion.

Governments from $33 Trillion to $ 58 Trillion

Corporations from $ 38 Trillion to $ 56 Trillion

Households from $33 Trillion to $ 40 Trillion.

Source: http://www.mckinsey.com/insights/economic_studies/debt_and_not_much_deleveraging

One could make the argument that central bankers have not promoted a deleveraging, but rather have fostered and promoted more leveraging, more debt issuance, and more debt ownership.

It is the owners of this new debt that have the problem.  Any small interest rate rise, not even an approach to historical norms, but rather a modest uptick, would cause debt portfolios to wobble.  Janet Yellen freezes at the prospect.  And as she freezes, borrowers line up to take further advantage of the forced imbalance in the marketplace.  On and on it goes.

A reckoning awaits.

If the cost of debt today is reduction in future consumption, the future is not bright.

How much longer can central bankers force these imbalances?  And will private and corporate borrowing become so massive that central bankers will lose the reins?