Though rapid growth in debts caused the financial crisis in 2008, the amounts of debt held by governments and companies across the world are growing and are well past safe levels, according to a recent speech by Herve Hannoun, Deputy Manager of the Bank of International Settlements, an international banking watchdog.
Cross-Sector Dependence on Debt a Major Economic Risk
Hannoun argues that debt has become a dangerous problem for the world economy because of a bias toward easy monetary policy by central banks, excessive borrowing by the banking sector and by consumers, plus unsustainable levels of spending by governments.
Source: BIS, 2015
Low Inflation Environment has Encouraged Excessively Easy Monetary Policy
On the first point, the low-inflation period of the early 2000s made central banks ease back on monetary policy, which fed excessive borrowing and sparked global increases in real estate investment and speculation.
Prudent government spending has largely gone out of the window in the years before and after the crisis, with few governments running balanced budgets and deficits commonplace.
Source: BIS, 2015
Hannoun cites the widespread ignorance of the 60% debt to GDP ratio stipulated in the Maastricht Treaty as a causal factor for the current malaise in the European Union.
Lots of Solutions but Balanced Budgets Most Necessary
Hannon posits a number of solutions to the problem of debt overhang ranging from debt default and restructuring, increased wealth taxes, higher inflation, privatisation and primary surpluses for governments.
While default and high inflation remain risky paths to follow for fear of undermining investor confidence, he concludes that a comprehensive strategy of forcing governments to raise savings by running balanced budgets is the only way forward.