Another potential consequence of the pandemic is less recognised but potentially more important: increased financial fragility, implying the potential for a debt crisis and even a broader financial collapse. After Covid-19 is contained and policies are implemented to ease the situation, supply chains will be restored and people will return to work with the hopes of recovering at least some of their lost incomes. But that real economic recovery could be derailed by unresolved financial and debt crises. [...]
A recent analysis by the United Nations Conference on Trade and Development shows how sustained debts could pose a larger problem for the global economy and financial system. In 2018, total debt (private, public, domestic and external) across developing countries was equal to almost twice their combined gross domestic product—the highest it has ever been. Particularly concerning is the build-up of private debt by non-financial corporations, which now amounts to nearly three-quarters of total debt in developing countries (a much higher ratio than in advanced economies). According to UNCTAD, inherently volatile ‘foreign shadow financial institutions’ have played a major role in fuelling this accumulation, such that around one-third of private non-financial corporate debt in developing countries (with the exception of China) is denominated in foreign currency and held by external creditors. [...]
As the Turkish economist Sabri Öncü has suggested, we can start by taking our cue from the London debt agreement of 1953, which dramatically altered economic conditions for Germany, at that time a major debtor. The agreement between Germany and 20 external creditors wrote off 46 per cent of the country’s prewar debt and 52 per cent of its postwar debt, while the remaining debt was converted into long-term, low-interest loans with a five-year grace period before repayment. Most significantly, Germany had to repay its debt only if it ran a trade surplus and all repayments were limited to 3 per cent of annual export earnings. This encouraged Germany’s creditors to be vested in its export success, creating the conditions for the subsequent boom.
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