Laws and rules needed to limit COVID-19 hurt the ability to work for hundreds of millions around the world. Government borrowing to support them is justified.
But the enormous amounts of credit extended to people and companies are not “stimulus” — this is a fiction. Even when necessary, borrowing will slow global growth for many years to come.
As public policy, borrowing is justified in four ways. The most important is that elements of society face pressing needs. This applies to nearly all countries in 2020, though it did not before the pandemic.
The second justification was given by Keynes: in a crisis, government should spend to sustain economic activity, borrowing from capital-holders who might not invest or spend due to uncertainty.
Sustainable borrowing until uncertainty eases has been abused many times in many countries, for example the US in 2019, which saw heavy borrowing for no economic reason. Fiscal abusers cite a third, severely flawed justification for borrowing: boosting gross domestic product (GDP). GDP measures activity, not prosperity.
For instance, China’s GDP per capita is 50 percent larger than disposable income per capita. The former is accounting, the latter actual money.
With regard to government borrowing, GDP is badly designed. It defines the state spending more than it takes in as a gain. Advocates also claim a borrowed dollar generates future benefits, known as a multiplier. If spending is worthwhile, it will generate income for repayments and the debt burden will fall.
This is usually hard to see internationally. India ran a gross fiscal deficit averaging more than six percent of GDP in the 2010’s, yet economic growth moved progressively lower. The same trend held in Japan, China, and the U.S. The world’s governments borrowed heavily last decade, despite low uncertainty and initially solid growth, with poor results.
The successor to unproductive borrowing prior to COVID is more of it. How can there be a multiplier when economic activity is restricted by health concerns? There will never be evidence of effective stimulus during a pandemic — it’s purely an article of faith.
The evidence argues instead for extended stagnation, after the post-pandemic bounce. The Bank of International Settlements publishes global credit data over time. The data are taken from sometimes biased national sources but are statistically reasonable and enable comparison of major economies.
Unsurprisingly, initial 2020 results show a sharp rise in leverage for the U.S. and China, among others.
In the third quarter of 2018, American non-financial credit as a share of GDP was lower than the third quarter of 2009. The financial crisis surge had been checked. Leveraging then climbed to a record in the third quarter of 2019. Despite the looser credit, both GDP and personal income growth weakened.
The first quarter of 2020 saw the biggest surge ever in U.S. outstanding credit, to 265 percent of GDP. Nearly three quarters of the borrowing was by the government. Credit to households did not budge and, in fact, was near 18-year lows. This is just the start, of course — the explosion in the federal deficit and violent contraction in American GDP only began in March.
China fared even worse. Despite record leveraging by the fourth quarter of 2019, its economy has slowed. And China’s first quarter of 2020 dwarfed even the U.S., with outstanding credit jumping to 275 percent of GDP. The bulk flowed from banks to companies. China claims GDP growth returned in the second quarter, dubiously, so debt accumulation will appear to moderate.
While these are unprecedented burdens for the world’s top two economies, they are old hat for number three. Japan first reported full credit data in 1997, already at 300 percent of GDP.
In the first quarter of this year, the debt ratio edged up to 383 percent. Household borrowing is minor and corporate leveraging peaked in the 1990’s; the problem is now entirely the government.
For decades, advocates of enormous amounts of Japanese leveraging have pretended it boosts growth, while Japan dropped toward the bottom of rich countries in income level. Yet the U.S., China, and others are choosing Japan’s path.
They risk the same fate. The U.S. will remain rich but essentially stop growing. China’s situation is worse, since it is approaching 1990’s Japanese credit burdens while far from high income.
With India heavily and fruitlessly borrowing even before COVID, who is left to generate global growth? Current borrowing must help those in need. But, self-serving pretense aside, it risks long-term stagnation.
The world economy cannot have its cake and eat it, too.