This post originally appeared in Actionable in September 2011.
Two terrific write ups from Boston Consulting (BC) are available entitled Stop Kicking the Can Down the Road and also Back to Mesopotamia. The later goes right to the heart of what is necessary to reset the global economy. Taking each country and applying a less sickly debt level equal to 180% of GDP they present the (my) case. Anything over 180% represents a serious debt overhang. It is only when one totals up all the enormous haircuts of wealth does one truly appreciate the problem. That is especially made true when the powers to be can’t even step up to the plate to write off and restructure a nation as far gone as Greece which in 2009 would have needed an overall haircut of $175 billion, almost all of it government debt. Now it is much more.
The problem of course is that Portugal and Ireland need big debt forgiveness in their household and corporate (banking) sectors which are far worse off than Greece’s. I have no idea why they used 2009 debt levels as the numbers are much higher now, nearly 100% government debt in the case of the US. Still the first chart gives us a handicap of what is required and the second chart offers the update.
In order for Euro zone as a whole to get back to sustainable levels, about $8 trillion in debt needs to go. For the US it is $11.5 trillion. They didn’t cover Japan, but you get the picture. Interestingly BC suggests giving the haircuts primarily to the wealthy and banksters where the real money is. The official sector will have to take hits, as they own most of the Greek debt now. Boa ideia! Without debt write offs there are only three other ways to deal with this, grow, but in the case of these countries growth only comes with huge commitments of government spending and debt which far offsets ny stimulative benefit, and that has now backfired. Next is save and payback, also known as austerity, which is hard to get off the ground and takes years to execute. The last option is inflation, which I have railed about incessantly as an economy destroyer and distorter. Serious inflations diminish economic growth.
In kicking the can, BC discusses the current regime of financial repression, whereby interest rates are pinned will below GDP growth and inflation. They suggest (using 2009 data) that if the US could keep interest rates 3% below GDP growth, then the debt overhang could be worked off in 13 years. The problem as we have seen in the last year is that this approach is fitful and has been rendered completely worthless when debt levels are growing at double digits levels. So in reality financial repression has been a complete farce.