The global debt has reached a new high of USD 226 trillion as a result of the COVID-19 and the policies put in place to respond to it, with India’s debt expected to rise to 90.6 percent in 2021, according to the International Monetary Fund on Wednesday.
In 2020, advanced economies and China will account for more than 90% of global debt accumulation. Only about 7% came from the remaining emerging economies and low-income developing countries.
Debt levels increased quickly and reached high levels as a result of COVID 19 and the policies put in place to respond to it. High and rising levels of public and private debt pose risks to financial stability and public finances. Vitor Barroso, Director of the IMF’s Fiscal Affairs Department
Government, household, and non-financial corporation debt totaled USD 226 trillion in 2020, an increase of USD 27 trillion over 2019. This is by far the largest increase on record, he said.
According to the IMF’s 2021 Fiscal Monitor report, India’s debt increased from 68.9% of GDP in 2016 to 89.6% in 2020. It is expected to rise to 90.6 percent in 2021, then fall to 88.8 percent in 2022, eventually reaching 85.2 percent in 2026.
Policy Reports
According to Gasper, financing constraints are particularly severe for poorer countries. Noting that fiscal policy had proven its worth in 2020, he stated that the increase in public debt in 2020 was fully justified by the need to respond to the pandemic. The IMF stated in its report that fiscal risks are elevated.
Increased vaccine production and delivery, particularly to emerging markets and low-income developing countries, would limit further global economic damage.
On the negative side, new virus variants, low vaccine coverage in many countries, and delays in some people’s acceptance of vaccination could cause new harm and put additional strain on public budgets. According to the report, the realization of contingent liabilities, such as those arising from loan and guarantee programs, may result in unexpected increases in government debt.
It’s a difficult balancing act.
The large increase in debt was justified by the need to protect people’s lives, keep jobs, and avoid a wave of bankruptcies. The social and economic consequences would have been disastrous if governments had not intervened. In an environment of high debt and rising inflation, finding the right balance of fiscal and monetary policies is critical.
Fortunately, fiscal and monetary policies complemented each other during the worst of the pandemic.
However, the debt surge exacerbates vulnerabilities, particularly as financing conditions tighten. High debt levels, in most cases, limit governments’ ability to support recovery and the private sector’s ability to invest in the medium term. Central bank actions, particularly in advanced economies, pushed interest rates to their lowest levels in decades, making it easier for governments to borrow.
How to get a remedy
Monetary policy is now focusing on rising inflation and inflation expectations, as it should. While an increase in inflation and nominal GDP can help reduce debt ratios in some cases, a significant reduction in debt is unlikely to be sustained. Borrowing costs rise as central banks raise interest rates to prevent persistently high inflation.
Policy rates in many emerging markets have already risen, and further increases are expected. Central banks in advanced economies are also planning to reduce their large purchases of government debt and other assets—however, how this reduction is implemented will have implications for economic recovery and fiscal policy.
Fiscal policy will need to adjust as interest rates rise, particularly in countries with higher debt vulnerabilities. Fiscal support, as history has shown, becomes less effective when interest rates respond—that is, higher spending (or lower taxes) has less impact on economic activity and employment and may fuel inflationary pressures. Concerns about debt sustainability are likely to grow.
If global interest rates rise faster than expected and growth slows, the risks will be amplified. A significant tightening of financial conditions would put additional strain on the most indebted governments, households, and businesses. Growth prospects will suffer if the public and private sectors are forced to deleverage at the same time.
Because of the uncertain outlook and increased vulnerabilities, it is critical to strike the right balance between policy flexibility, quick adaptation to changing circumstances, and commitment to credible and sustainable medium-term fiscal plans. A strategy like this would reduce debt vulnerabilities while also making it easier for central banks to control inflation.
Targeted fiscal assistance will be critical in protecting the vulnerable (see the October 2021 Fiscal Monitor). Some countries, particularly those with high gross financing needs (rollover risks) or exchange rate volatility, may need to adjust more quickly to maintain market confidence and avoid more disruptive fiscal distress. The pandemic and the global financing gap necessitate strong, effective international cooperation and development assistance.
