The international outlook is full of uncertainty, volatility and persistent risk. This is partially due to the huge amounts of government spending all around the world over the last three years in response to the Covid pandemic. This debt burden and international risk will take decades to pay back. At the same time, we are experiencing underinvestment in several important areas, which means that younger workers will not have the opportunities needed for longer-term growth. The near zero interest rates that most advanced economies have enjoyed for the last decade has never happened before, and left us in uncharged territory when it comes to monetary policy and managing international risk. This has been layered with the giant amount of government spending fueled by debt and central government bond buying by most advanced economies. Central bank activities have been overlapping with governments in the last few years, with central banks buying government bonds, which had no really happened before. This is now showing up as inflation and interest rate increases, which most affects the poor and most vulnerable. Often unnoticed, poverty numbers are increasing globally. About 1.2 billion people in over 110 countries living in acute and multidimensional poverty. Despite years of positive developments in reducing poverty globally, we have now seen s spike in the number of people living in extreme poverty. Russia’s invasion of Ukraine, reduced economic growth in China, and energy and cost of living crisis are increasing the international risk of a permanent decline in poverty mitigation efforts.
Global debt is at a record high and many countries are in debt distress. Considering we are emerging from a global pandemic, it could be argued that it was the right thing for governments around the world to mitigate the risks by spending money. High unemployment and failing businesses were a significant risk during the pandemic and governments were correct to focus on these risks. However, too much government spending has put significant upward pressure on inflation and we are now living through the risk of persistently high inflation. Mitigating risk often brings new risks, and this is a case in point. When mitigating current risks, we must not forget about future possibilities. Interest rates were left too low for too long and government spending has proven to be too high for too long. Now we need to mitigate inflation.
An accepted economic view is that there should be a social safety net, but how much and how long is an unresolved topic at both the individual and state level. There must be an exit strategy and the support must be limited. Risk mitigation must be focused on the most acute risks, whereas government spending during the pandemic went to everyone. The risk mitigation was not targeted and the exit strategy was not clear. We see the same poor risk mitigation strategy employed now with rising energy prices. Instead of governments offering support to the most economically vulnerable, price caps on energy costs benefit everyone, even those not requiring financial support from the state. Blanket benefits are too expensive and will lead to greater inflation. There was a rally cry around the world during the pandemic for governments to do all they could, but the debt is now showing up on government spending sheets around the world and negatively impacting the same people the spending was meant to help.
Borrowing money to reduce taxes can be beneficial, but is a delicate balance and at the moment, government balance sheets are already significantly indebted. Japan for example has the highest level of debt for any advanced economy. Japan’s debt is 257 percent of its annual GDP, much of it owed to the Bank of Japan. This means that for years and years, Japanese citizens will be paying off this debt instead of reinvesting into their economy. When interest rates are low, like they have been for the last decade, there is less attention paid to servicing debt, but now interest rates a rising, it is taking away from other spending the Japanese Government should be doing in other areas of society. As interest rates rise further, there will be even more pressure on the people of Japan to service their significant state debt.
China is in a similar position, with debt also more than 250 percent of annual GDP. A big chunk of the Chinese debt is on state-owned entities and within the real estate sector. Because of lock downs the economy in China has significantly slowed, but once the economy reopens, there will be some degree of recovery. As soon as China starts producing again, the world will sigh some relief.
Productivity for the USA has plunged by the fastest amount since 1947, despite the huge productive capacity within the USA. Productivity in manufacturing in the USA remains high, buy not so across all sectors. Higher productivity usually translates to more good and services at lower costs, putting downward pressure on inflation, and that is why we are concerned about the productivity trends in the USA. The economic risks we are experiencing now may be with us for a while. The IMF suggests that inflation will peak at 9.4 percent in 2023, and in 2024 should reduce to about four percent.
Many countries with unsustainable debt cannot wait until 2024, and are asking for support from the G20. The G20 however includes Russia and China, two countries in debt distress themselves. Countries with unsustainable debt burdens will find it difficult to negotiate with the G20 when two of its largest members of the G20 are also largely indebted and economically in distress. Historically, much of the debt in developing economies was to the most developed countries including the US, Germany, France, whereas over the last 15 years, debt was supported by China and the private sector. This system and these relationships now needs to be reviewed as so many countries are in unsustainable debt positions and the international risks are significant. Pakistan for example, owes China $77 billion, and Sir Lanka owes China about $6 billion, and both countries have now asked the IMF for support.
Another example of mitigating risk bringing new risks is debt-trap-diplomacy. In August, a Chinese missile-tracking vessel docked in Sri Lanka. India and the USA quickly objected, without any impact. When a country owes another country so much money, the lender can often do whatever they want. Many analysts have argued for several years that China has a long and deliberately pursued a policy of indebting developing countries with the purpose of trapping economically less developed countries into a relationship where China can extract political or economic advantages from them. There is a real urgency for the world to mitigate the international risks of debt-trap diplomacy and to find a mechanisms to write off or reduce the debt size owed by developing economies or there will be further debt-trap diplomacy, further escalating other diplomatic and military risks.
At the same time, Russia’s invasion of Ukraine has led to other reversals of gains previously made around the reduction of green house gases. Like other development reversals, the reversals of climate advances have been dramatic in 2022. Greenhouse gas emissions are increasing in Europe, as Europe loses access to lower carbon intensity fuels because of Russia’s invasion and the need for European countries to revert to coal-fired power plants because of the simultaneous reduction in nuclear power capacity. Coal experts are increasing globally, and are much more carbon intensive. Advanced economies should be producing more low carbon energy but there has not been the investment needed in alternative energy sources.
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