Global fiscal burden: Will the Atlas shrug?

To handle the unprecedented fallout of the Covid pandemic, countries across the world have adopted swift, sizeable, and innovative fiscal and monetary policies. Notwithstanding these, the global economy is projected to experience a contraction of nearly 5 per cent in 2020.

Thus, it is no wonder that the tussle between fiscal stimulus and austerity is less pronounced this time than what was visible during the global financial crisis of 2008-09. However, there are often unintended consequences of an otherwise desired policy measure. And it is in this context that one may be concerned and apprehensive about the shape of things to come in the realm of public debt and fiscal deficit.

Worrying numbers

The IMF’s Fiscal Monitor report, released in October, has revealed some startling statistics in this regard. Aggregate global fiscal deficit of the general government (that is, central, state, and all other sub-components of the government, taken together), as a percentage of global GDP, is estimated to go up from 3.9 per cent in 2019 to 12.7 per cent in 2020 — an increase of nearly nine percentage points over a year (Table)!

Such an increase in fiscal deficit is noticeable across the board — both in advanced countries and emerging market and middle-income economies. Even oil producers, a group traditionally characterised by fiscal surplus, are estimated to experience a fiscal deficit of more than 10 per cent of their GDP. This is, of course, in tune with the depressed oil price.

The situation of the accumulated debt position is of more concern. Given the interest burden of the current increased deficit, the global debt-GDP ratio is estimated to be higher than 100 per cent from 2021 onwards till 2025.

Such a high debt-GDP ratio, though still less than that was experienced during World War II (when it touched almost 150 per cent), looks to be ominous. Additionally, there is an uncomfortable situation about financing such debt. Note that debt-GDP ratios of the advanced countries are far higher than those of emerging market and middle-income countries, reflecting perhaps the increased capability of the former set to access international capital market.

Thus, while advanced economies like the US, the Euro area countries, and Japan benefited from the exceptionally easy global financing conditions and low-interest rates, low-income developing countries like those in sub-Saharan Africa often did not get access to easy finance in international markets.

The Lucas Paradox

This, coupled with the substantial reserve accumulation on the part of the emerging market economies (held mostly in terms of government bonds and treasury bills of advanced countries), reconfirms the global trend of capital going uphill — from emerging to advanced countries. This phenomenon is known as ‘Lucas Paradox’, owing to the Nobel idea of University of Chicago economist Robert Lucas.

How did the world go there? A decade ago, there was a substantial fiscal stimulus all around the world for handling the fallout of the global financial crisis that lasted in many countries beyond 2010. This was joined by another infusion of fiscal stimulus in Euro area countries immediately after. The current pandemic crisis within a decade perhaps exposes the limits of government coffers and their funding capability.

Also, note that this is just the story of the public debt. If one adds the private debt to it, the situation looks grimmer. As the IMF’s Fiscal Monitor comments, “Prior to the pandemic, public and private debt were already high and rising in most countries, reaching 225 per cent of GDP in 2019, 30 percentage points above the level prevailing before the global financial crisis.”

In this unprecedented crisis, massive expansionary fiscal and monetary policy measures have rightly been adopted. The world has perhaps not seen this level of state intervention before. But as we are looking at some promising news from the vaccine development front, it will be essential to ponder over the possible implications of the consequences of these policies. The concerns will be particularly strong for countries with low projected growth and inadequate access to further borrowings. Increasing interest rates and a growing debt burden can be a double-whammy for these countries. Drying up of aid flows and possible occurrence of the ‘Lucas Paradox’ will only complicate the adverse effects of financial globalisation.

In Greek mythology, Atlas, one of the Titans, was given a punishment of bearing the weight of heaven on his shoulder. At the current juncture, does the world seem to be on the shoulders of the Atlas called ‘debt’? Let’s hope that Atlas won’t shrug in the days to come!

The writers are Professors of Economics at IIM Calcutta.

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