McKinsey On Sovereign (De)Leveraging And Untenable Debt Loads
McKinsey has released a very detailed report which focuses on the "final frontier" of the global credit bubble: the migration of private sector leverage over to the sovereign balance sheet, and the viability and sustainability of this process. This is not a new topic on Zero Hedge, and as Greece just experienced today, unless a country is well equipped with the dynamic duo of a reserve currency and a printing press, surging sovereign debt usually ends with just one outcome...
The McKinsey consultants have performed an in-depth empirical study tracing the history of (de)leveraging in both the developing and developed world, at both the corporate, financial institution and consumer levels, and the corresponding offset at the sovereigns. Amusingly, analysts read the "improvement" in the credit picture at various private sectors, while completely ignoring the vertical spike in new sovereign debt issuance. If you were wondering why everyone is on pins and needles every time there is a new UST auction, now you know: in the zero sum game of credit transfer, any improvement in the former is purely as a result of the largess of the later. A funding crisis in Greece, which at this point seems a certainty will likely start off the long-awaited European domino action which will begin at the FX level, and slowly migrate to default risk for all European countries. Once that happens, risk will promptly migrate away from Eurozone, and travel west over the Atlantic. In that regard, we still consider US CDS as very cheap, despite their doubling from the first time we suggested investors take a look.
Back to McKinsey - lot of pretty charts, which we suggest readers peruse at their leisure, coupled with insightful commentary.
Here is what happens to global leverage when you leave deranged money printers with aspirations for zero % cost of debt in charge of the whole show:
Further to today's bank earnings, a chart that demonstrates that while bank leverage has fallen from the historic average, it is still a massive 20+ for US Broker/Dealers. This is why a 5% loss in principal ends up wiping out all the equity used by the likes of Bank of America. Japan, at nearly double the US financial sector leverage, is just a crisis waiting to happen.
The major issue that administrations (should) have with deleveraging is that GDP growth following such a period is significantly stunted. Take away government stimulus (which in the U.S. you can safely say is a done deal after last night's Mass results), and GDP will promptly return to its negative trendline shortly.
Next: a very useful visualization of the relative and absolute composition of debt across different countries. The UK and Japan are in a heap of trouble.Amusingly, Greece is not even on the chart, yet all the focus falls on the small Mediterranean economy. This will soon change.
Japan's domestic reliance on debt funding (93% of total) is well known. Alas, other countries are not so lucky.
Not surprisingly, as financial institution leverage declined, household leverage took its place. Look for all these numbers to revert as saving become a key prerogative.
In America, the bulk of consumer leverage occurred precisely where the pain right now is most acute - middle-income households.
What would any leverage analysis be without at least a mention of the CRE "pocket of leverage."
And when discussing sovereign credit bubbles, one must always go to the source: Japan. At 471% total debt (including government, financial, non financial and household) to GDP, Japan is Keynesianism at its worst.Some variation of sovereign default/repudiation in the island country is inevitable.
Yet can America go far before hitting Great Depression economic levels? Oh yes. Government debt is nowhere near where it was during the Second World War as a % of GDP.
Yet the course is pretty much set- as the US attempts to repeat its stunning 100%+ debt/GDP ratio, here is how this would play out for the rest of the economy: