Some are becoming increasingly worried that a great government debt crisis could be coming in the future, but fixed-income specialists are unconcerned.
Global debt hit a record $307trn in the second quarter of the year, according to data from the Institute of International Finance.
A survey by PR firm Edelman Smithfield found 97% of respondents think a debt crisis among developed countries is a “likely scenario” in the next three years, defined as a disorderly sell-off, a spike in yields and forced policy intervention to calm the markets. Some 63% said it was very likely while 34% noted it was fairly likely.
Last week, Gerard Lyons, chief economic strategist at Netwealth, warned that a crisis was “likely by the end of the decade”, with signs of impending doom coming much sooner than that.
April LaRusse, head of investment specialists at Insight Investments, said it is “hard not to look at the graphs and some of the stats on how much of the government revenue is going just to service the debt and not think 'hmm, could this all be horribly wrong?'”.
“There are lots of examples in history of countries getting over-levered and then finding themselves in a rather difficult situation, even if it's just like a sort of protracted period of low growth like Japan,” she added.
However, she noted that countries generally took on a lot of debt when interest rates were low, at a time when it cost very little to borrow.
The concern is that rates are now higher but governments are keen to spend more, with populist parties promising to spend to keep people happy, she said.
“Is it a worry? Well, so far, there aren't a bunch of failed auctions, we're not seeing massive dislocations in markets, so not yet,” LaRusse said.
Of concern is the lack of willingness to rectify the situation, she noted, questioning if global leaders “have the guts” to bring down their debt levels. “So far, the answer is no,” she said.
Will a debt crisis occur?
Joe Little, chief global strategist at HSBC Asset Management, said no, although he noted that developed nations are acting more like emerging markets, where debt crises have been more common.
“If you have a situation where global governments, particularly in the West, want to pursue a strategy of active fiscal policy to support the populist agenda, and that is attempted to be done by unfunded spending promises or more expansionary fiscal policy, then the bond market is going to have an opinion on this,” he said.
The steepening of the yield curve that has taken place this year and volatility at the ultra-long end of the yield curve should, however, cause governments to impose some “fiscal responsibility”.
“It's such a key theme, but no crisis for me,” he concluded.
His view was backed up by Marcelo Assalin, head of emerging market debt at William Blair Investment Management, who has seen many debt crises in his career.
“I'm not in the camp of those who believe that we're going to see a debt crisis in advanced economies anytime soon,” he said. “I think it's a very relevant question, but I'm not sure that it's anything more than really big sensationalism.”
Part of this rationale for this is that global GDP continues to grow. Economists have a ‘golden rule’, which states that everything is okay as long as growth remains ahead of interest rates.
“If you're in a situation where nominal growth is above nominal interest rates, then it's all straightforward, frankly,” Assalin said.
Even if things turn sour, he added that governments can hike taxes and print money, something that more worried investors tend to overlook.
“We're going to see more tax increases. And in my opinion, yes, bond investors should be cautious. But taxpayers should be worried, because that's the way out,” he said.
LaRusse highlighted other ways in which governments could “cheat” their way out of a debt crisis by using methods such as restarting sovereign bond purchases to suppress yields.
This could be done through pension funds or banks, which could be told to own more government bonds on the balance sheet to improve their solvency.
“None of this is popular or nice, but it is ways to force or encourage more investing in government funds, which, in theory, should calm things down,” she said.
She highlighted a report that the Colombian government is contemplating higher levels of local Colombian government bond investment by pension schemes as a blueprint for developed nations, should it be required.
“They have ways they can make us buy them,” she said.