McKinsey & Company, a multinational consulting firm, recently compiled data on global debt and economic growth. The company determined that worldwide debt has reached nearly $200 trillion dollars, up from roughly $140 trillion at the time of the 2008 crisis. Gross world product grew approximately $15 trillion to $70 trillion in the same time frame.
In other words, IOUs grew roughly 41% over the last seven years in a period when the global economy expanded at a more modest 27%. In what world can debt grow faster than economic output before countries and monetary unions eventually struggle to service debts? (A relatively short list of countries on earth can actually pay back the principal on the money that they owe; we are simply talking about an ability or inability to pay creditors the interest on their loans.)
An individual, a family or a nation can improve its standing in its quest to service debts in one of two ways. Incomes can rise or interest rates can decline. If we look at the U.S. Federal Reserve – one of a handful of central banks that has been talking about raising interest rates – chairperson Janet Yellen had been counting on probable wage inflation emanating from strong headline job gains over the last six months. Theoretically, if people are earning more, then they have a greater capacity to pay the interest on their IOUs, even if the interest rate climbs modestly. By the same token, if folks are working more, they’re likely to consume more, generating more tax revenue for the nation to pay the interest on its obligations.
Unfortunately, Janet Yellen and her fellow Federal Reserve colleagues cannot hike rates on theory alone. Headline job gains have not translated into anticipated wage increases. Theoretical constructs abound, but the truth of the matter is, there are more people looking for decent-paying jobs than there are actual positions. Higher paying careers have been giving way to lower paying positions since the Great Recession ended; a huge chunk of those positions are part-time. What’s more, when the actual unemployment rate is adjusted for labor force participation, you still have 10% of working-aged individuals looking for opportunities that no longer exist.
It follows that there will not be wage growth until there are more higher-paying job openings and less working-aged individuals available to fill them. Will the Fed really raise borrowing costs if households – families that never fully deleveraged in the years since the Great Recession – are still struggling to pay interest on their IOUs? Maybe a token hike or two by year-end, but “normalization?” Not a chance. Historic debt-to-income ratios for households as well as debt-to-GDP ratios for countries tend to fall in a range of 2%-5%. People with adjustable loans cannot afford to go from 4% mortgages to 8% mortgages, nor is the U.S. generating enough in taxes to direct twice as much of the revenue pie toward debt servicing.
Is it any wonder, then, that Yellen’s fellow members agonized over removing the word “patient” from its script? Doing so, it was feared, might eliminate the current flexibility the committee enjoys with respect to waiting for more data. What’s more, the meeting minutes recorded that “many participants” concluded that current economic circumstances “had inclined them toward keeping the federal funds rate at its effective lower bound for a longer time.” What? If this does not sound like concerns about economic deceleration – as opposed to media narratives describing economic acceleration – I don’t know what does. It also sounds as though “extraordinary patience” on changes to borrowing cost policy will be a Federal Reserve virtue.