One of the verses in ‘16 tons’, the Johnny Cash song about the fate of coal miners, says ‘You load sixteen tons, what do you get, another day older and deeper in debt, St Peter don’t you call me, cos I can’t go, I owe my soul to the company store’. That just about sums up the situation today.
Global debt is at an unbelievable level of $247 trillion which is more than three times global GDP of around $80 trillion. Even assuming that global income grows at an optimistic 5 per cent, that is an additional $4 trillion of income, which is 1/62th of the debt. Can it be serviced?
Till debt do us apart.
In the US, the biggest component of outstanding debt is mortgage loans. This amounted to $14.9 trillion at the end of 2017. One of the reasons for the global financial crisis of 2008 was because banks undertook ‘sub-prime’ lending, or lending to borrowers who were ‘sub-prime’ and hence highly likely to default. Banks also lent to ‘NINJAs’ or borrowers with No income, no jobs and no assets’. They then securitised (packaged) these sub-prime mortgages, and paid rating agencies such as S&P and Moody’s to give ratings to the securitised mortgages. Rating agencies were ‘generous’ in giving good ratings, including AAA! thus enabling sale of sub-prime securitised mortgage loans to retail investors. When the s * * * hit the fan, it was the retail investors who took the hit as the banks had passed on the risk.
Guess what!?! Sub prime mortgages are back!
BofA’s $10-b programme
Bank of America has backed a $10-billion programme of a brokerage Neighbourhood Assistance Corporation of America to offer zero-down mortgages (no down payment) to low income borrowers with poor credit scores. The loan approval rate is stated to be 95 per cent, the loan tenure 15-30 years, and the interest rate is below market, at 4.5 per cent. This portends to be the start of another crisis.
Till debt do us part.
Ok, so a responsible adult takes a mortgage loan and buys a house. He then wants to educate his children, so his children take a student loan. The next largest category of debt is student loans, whose outstanding debt is $1.5 trillion. The number of good jobs which enable students to pay off the loans is reducing, thanks to the jobs being outsourced or automated. Students are working two jobs (including at McDonald’s, serving tables or at Walmart, serving customers) to pay off the debt.
St Peter don’t you call me, cos I can’t go, I owe my soul to the company store.
Pension fund woes
The responsible adult then puts his savings in pension funds, believing it would provide him a good nest egg to spend his golden years in comfort. But oh, oops! Pension funds are ‘underfunded’, which means that the funds lying with them do not earn enough money to allow them to meet the pension obligations to those who put funds with them. In simple English, they are broke. So that retirement egg will, like Humpty Dumpty, be so broken that all King Trump’s men and all his horses won’t be able to put it together again. None other than the US SEC, the regulator, has warned about the fate of underfunded pensions.
Even more worrisome than global debt is the exposure of too big to fail banks to derivatives. The top nine banks have a derivative exposure of $229 trillion.
This, then, is the global ‘inverted pyramid’ with derivatives as the wide top resting on the narrow base of gold. An inverted pyramid is dimensionally unstable.
(The writer is India Head — Finance Asia/Haymarket. The views are personal.)