China is one of the largest nations whose economy continues to be propped up by the availability of cheap credit. 1 The economic meltdown of 2008 created the environment for central banks around the world to ease the pain with the morphine of low interest rates, but the effects have to wear off eventually.
Staggering Levels of Global Debt
With a decade of disappointing growth and recovery, nations around the world have used their central banks as the pushers of this financial opiate. An alarming number have gone so far as to create a historical anachronism – charging savers who provide capital via negative interest rates.
The primary effect of this ongoing overdose is the accumulation of incredible levels of debt. Since 2007 the governments of the globe have added nearly 50 percent to their total debt levels, with worldwide debt passing $200 trillion in 2014. 2 While the markets seem to have become deadened to such large numbers, it is worth noting this level of indebtedness is three times the annual world economy.
These numbers do not include the massive levels of private debt that have been created by such artificially low interest rates. Globally, private debt in emerging countries has ballooned from an average of 75 percent of GDP to an unprecedented 125 percent. 3 Many national banking systems are at risk when and if rates do return to their natural level.
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Fears are that the current number is significantly higher, and continuing to grow with no constraints. Far lower levels of debt have caused defaults and collapses in recent decades, including the nations of Indonesia, Russia, South Korea, and Thailand. There are some who now see the potential for a debt contagion, causing a domino collapse around the world.
China: The Straw That Could Break The System
The expectation for the ultimate result of such major debt expansions is economic stagnation at best, a financial collapse at worse. China is now the central point of concern for knowledgeable market observers.
The nation’s pivotal debt-to-GDP ratio now stands at 260 percent, an increase from an already high 150 percent in just a decade. Concerns over such a rapid rise are not hypothetical: Officials report a doubling of troubled loans over the past two years, already equaling 5.5 percent of all outstanding loans. Borrowers are already spending 40 percent of all new debt to pay interest on outstanding loans, with an increasing number of the largest companies owing more interest than they earn each year before taxes.
Some analysts, such as Kyle Bass (who bet against subprime loans in the U.S.) has gone on record predicting that Chinese banks may lose as much as $3.5 trillion on these loans. Perspective is provided by realizing this is four times the losses of U.S. banks during the 2008 meltdown.
The Chinese now join the ranks of Deutsche Bank, Italian banks, and banks in other nations that are facing systemic risks to their economies from the excess lending. These concerns explain why there is so much hesitancy to increase rates – that would only speed up and magnify any foreseeable collapse.
2 – http://www.bloomberg.com/news/articles/2016-02-22/the-world-s-debt-is-alarmingly-high-but-is-it-contagious
3 – http://www.reuters.com/article/us-oil-economy-emerging-kemp-idUSKCN0VH1JV