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Developing countries' debts soar.

 The global bank­ing industry has warned that devel­op­ing coun­try debt piles have hit a fresh high,

Dollars

adding to fears of a wave of defaults this year. The com­bined gov­ern­ment, house­hold, cor­por­ate and fin­an­cial sec­tor debts of 30 large low- and middle-income coun­tries rose to $98tn at the end of Decem­ber, as their cur­ren­cies slumped against the dol­lar. The debt bur­den for the 30 coun­tries was up from $96tn a year earlier and from $75tn in 2019 before the pan­demic began, the IIF, a trade body for the global bank­ing industry, said in the latest edi­tion of its quarterly Global Debt Mon­itor. Gov­ern­ment debts alone were equal to almost 65 per cent of gross domestic product by the end of 2022, an increase of 10 per­cent­age points over pre­pan­demic levels and the highest-ever year-end total.

The dol­lar soared against most emer­ging mar­ket and advanced eco­nomy cur­ren­cies throughout 2022, rais­ing the cost of meet­ing exist­ing debt oblig­a­tions, many of which are denom­in­ated in the US cur­rency. The dol­lar's rise fol­lowed a series of aggress­ive interest rate increases to com­bat high infla­tion from the US Fed­eral Reserve, which had a knock-on impact on global bor­row­ing costs. The strength of the dol­lar against most emer­ging mar­ket cur­ren­cies last year led investors to dump emer­ging mar­ket stocks and bonds. This trend went into reverse last Octo­ber after the dol­lar weakened.

However, recent data on the US eco­nomy sug­gest­ing infla­tion and interest rates may remain high for longer than pre­vi­ously expec­ted has led to a fresh bout of dol­lar strength. Emre Tiftik, an IIF eco­nom­ist, said the dol­lar's strength had left low-income coun­tries facing extra fund­ing costs because many relied heav­ily on dol­lar­de­nom­in­ated fund­ing to secure interest from global investors. As a result, the ratio of debt ser­vice prices to gov­ern­ment rev­en­ues had risen to «excep­tional levels», Parker said. In advanced eco­nom­ies, total debt declined by almost $6tn to just under $201tn, leav­ing the total global debt bur­den down slightly, from $303tn at the end of 2021 to below $300tn at the end of last year.

Even so, the Fed is not the only insti­tu­tion we need to help fight infla­tion, espe­cially given the sup­ply dis­rup­tions from the pan­demic and the war in Ukraine. The Fed, by rais­ing interest rates, can push down demand, but it can­not push up sup­ply. And Adam Sha­piro, an eco­nom­ist at the San Fran­cisco Fed, estim­ates that about 40 per cent of infla­tion is sup­ply-driven, 40 per cent is demand-driven, and the other 20 per cent is ambigu­ous. Given that real­ity, the Fed alone can­not get infla­tion back to the 2 per cent tar­get.

Its primary tool to rein in infla­tion is the fed­eral funds' rate that influ­ences the interest rates at which con­sumers and busi­nesses bor­row. The Fed rate hikes work through fin­an­cial mar­kets, and mon­et­ary policy is only one factor determ­in­ing the price of debt, mean­ing that the cent­ral bank's primary tool is not a pre­cise one. As a result, many could pay down debt dur­ing the pan­demic.

Busi­ness fixed invest­ment has con­trac­ted since the second quarter of last year, and hous­ing starts plunged by 20 per cent. However, the effects on the labour mar­ket are mod­est, even in areas like con­struc­tion. Com­pan­ies are likely hold­ing on to work­ers because it has been hard to rehire. That should help ease the labour short­ages and push down on infla­tion, even though they will increase demand.

Again, the Fed had no influ­ence on immig­ra­tion policy. The best way to solve a labour short­age is with more work­ers, not fewer cus­tom­ers. The US infra­struc­ture bill, the Chips Act to boost domestic semi­con­ductor pro­duc­tion, and the Infla­tion Reduc­tion Act all have ele­ments that will help with infla­tion, espe­cially in the future, by cre­at­ing or for­ti­fy­ing sup­ply. At the same time, demand man­age­ment is not an effi­cient way to deal with sup­ply-driven infla­tion.

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  1. Kyle23 February 2023 at 10:45

    We shouldn't even rely on the Fed alone to get inflation back to normal levels. It's clear they are just part of the solution.

    ReplyDelete

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