Debt has become a feature of the modern era. Since 1970, the world has undergone four major debt waves, spanning emerging, developing, and poor markets. These debt waves have been linked to financial crises such as the Latin American debt crisis of the 1980’s, the financial crisis in Asia of the late 1990’s, the global financial crisis of 2007-2009, and, most recently, the African debt crisis which has been ongoing for the last two decades.
Over the last decade, the worsening scale of external debt, especially in emerging and developing market economies and poor countries, has been one of the most important global financial developments and most significant risk factors for global financial insecurity, economic slowdown, and financial market volatility in borrowing countries. This situation has been fueled by the economic repercussions of the Coronavirus pandemic and the start of the Ukraine war. Amid the current economic challenges, the forecast predicts continued worsening of the debt crisis during 2023, based on a mounting number of indicators and factors expected to directly affect the debt landscape.
Mounting Indicators
The indicators of worsening and rapidly escalating external debt over the last two years prompt us to say that the world is currently facing a major debt crisis, which can be highlighted as follows:
1. Fluctuating size of global debt due to the rising price of the dollar: According to a report issued by the Institute of International Finance on May 18, 2022, global debt reached a record level of about $303 trillion in 2021. This was not limited solely to government debt, but also included public, private, corporate, and family debt. This high debt level has accounted for perhaps a 30% increase in the ratio of global debt to GDP in the last five years, and it is yet another jump in the record global debt from 2020, which—according to the IMF global debt database—reached $226 trillion, which, at the time, was the largest one-year increase in debt since World War II.
However, the strong dollar and the recent decline in bond sales contributed to reducing global debt relative to GDP in the third quarter of 2022. A new report published by the Institute of International Finance on November 22, 2022, indicated a decrease in the global debt-to-GDP ratio in the period from July to September to 343%—from $303 trillion at the beginning of 2022, to $290 trillion in the third quarter of the same year. However, this cannot be relied upon because, while the debt volume decreased in some countries, the ratio of debt to GDP was increasing due to weak growth and productivity.
2. Rise in total debt volume in sub-Saharan Africa: According to the available data, which are from 2020, sub-Saharan Africa’s total external debt stock was estimated at $702.4 billion, compared to $380.9 billion in 2012, which is nearly a two-fold increase. Meanwhile, the amount owed to official creditors—including multi-lateral lenders, governments, and government agencies—rose from about $119 billion to $258 billion. The Ukraine war raised the risk of sovereign debt in sub-Saharan Africa, especially amid the region’s current economic crisis due to rising food and energy prices, which increases the possibility that these countries may default in 2023.
3. Growth in total debt in developed countries: According to an IMF report issued on December 16, 2021, the size of public debt in developed economies rose sharply, from about 70% of GDP in 2007, to 124% of GDP in 2020. Meanwhile, private debt grew slightly, from 164% to 178% of GDP during the same period. Those increases can be traced back to a sharp rise in fiscal deficits and a collapse in government revenues in developed countries due to the recent recession and the lockdowns aimed at containing COVID-19.
According to a report issued by the Institute of International Finance in May 2022, the debt-to-GDP ratio was estimated at 257% in Japan and 207% in Greece, while both China and the US are increasing global public debt to record levels. Over the first three months of 2022, China’s debt increased by $2.5 trillion, and the US’s debt increased by about $1.5 trillion during the same period.
4. Growing debt volume in developing and emerging markets: A report issued by the Institute of International Finance in May 2022 indicated that the total debt of emerging economies during the first quarter of 2022 reached $98.7 trillion, compared to $89 trillion during the same period of 2021. Although the total debt volume decreased in emerging markets from $98.7 trillion to $96.2 trillion, according to a new report published by the Institute of International Finance on November 22, 2022, weak economic growth has returned the debt-to-GDP ratio in emerging markets to its highest level ever, at 254%, recorded in early 2022.
5. Increased risk of poor countries defaulting on debt repayments: Economists and global financial institutions, like the World Bank and IMF, have recently been raising the alarm regarding the seriousness of the debt crisis. In 2022, the World Bank predicted that about 12 countries could face default in the coming year. In this vein, it has been noted that about 60% of low-income developing countries suffer from, or are at high risk of, debt distress. In early December 2022, the World Bank stated that the world’s poorest countries owe $62 billion in annual debt service to official bilateral creditors, an increase of 35% over 2021, warning of the possibility of an increase in debt burdens.
By some accounts, poor countries owe $200 billion to wealthy countries, multi-lateral development banks, and private-sector creditors. During 2023, developing countries are expected to suffer a catastrophic debt crisis that will be exacerbated by a combination of rapid inflation, slow growth, high interest rates, and the strong dollar. This means that debt-relief efforts will face severe difficulties even as the economic crises in borrowing countries intensify, which is likely to cause a new wave of defaults.
Determining Factors
Predictions of increasing debts and defaults during 2023 are based on several key factors and determinants that are expected to greatly affect the debt landscape in 2023:
1. Expectations of ongoing negative supply shocks in 2023: Negative supply shocks, accompanied by stagflation, are expected to continue in 2023. This means sudden price increases for goods or services due to a decrease in supply, or, alternatively, decreased production due to high prices. The latter would be a much more difficult situation than excessive demand for goods because it would slow economic growth in borrowing countries, and decreased production capacity will decrease the ability of those countries to repay debt.
2. Expectations of a global recession in 2023 due to higher interest rates: Expectations for a global recession in 2023 are increasing, against the backdrop of central banks throughout the world raising interest rates in 2022, accompanied by an unprecedented increase in the price of goods. Thus, analysts predict that runaway price increases will dissuade people from buying, which will cause stagnation in economic activity.
The risk with regard to global debt lies in the fact that recession is usually accompanied by a series of financial crises in emerging markets and developing economies, which would contribute to reduced GDP growth and a lower volume of foreign cash and cash liquidity in those countries, and thus a decrease in their ability to repay debts, which means more payment defaults.
3. Possibility of high interest rates and tight central bank policies: Although the IMF predicts that global inflation will recede from 8.8% in 2022 to 6.5% in 2023, and 4.1% by 2024, this level remains high and may be accompanied by higher interest rates. Given the failure of the current interest rate hike to bring global inflation back to pre-pandemic levels, investors expect central banks to raise interest rates to about 4% in 2023, which is more than a two-point increase over the 2021 average. This would destabilize national currency prices, especially with respect to emerging markets with high debt levels, followed by a depreciation of their currency even as they are forced to repay in hard currency.
4. Sharp slowdown expected in global economic growth in 2023: A sharp slowdown in global economic growth expected in 2023 is an inevitable result of the above factors, leading many to forecast the growing possibility of recession in 2023. The president of the World Bank Group confirmed this when expressing his deep concern about economic trends during 2023, which he believes will have long-term and destructive consequences for the economy and citizens in emerging markets and developing economies.
5. Expensive and complex borrowing terms for developing countries: Defaults on a large group of loans may lead to higher borrowing costs for struggling countries, which, amid economic pressures, may be forced to request further loans even as they may suffer a decline in their credit rating. Lending countries and international organizations may tend to complicate lending terms, thus putting poor and developing countries amid serious challenges, as they have to either concede in order to obtain loans to revive their economy or face further erosion of their economic conditions.
Potential Implications
Worsening global debt rates in the coming year, particularly in poor and developing countries, may cause several negative political and economic repercussions:
1. Financial turmoil: Loan default is a state of insolvency experienced by countries that cannot repay their debts. This insolvency mirrors the many financial disruptions that may cause citizens to flounder in search of safe-haven investments, in an attempt to avoid financial losses as the value of their currency declines. Amid rising real estate prices, preserving hard currency has become the solution available to everyone desiring to preserve the value of their money. If this trend intensifies during 2023, it will push the dollar higher, place further financial burden on distressed countries, and set back their growth prospects.
2. Political unrest: Inability to pay debts and involvement in new debts may result in popular anger and resentment in developing or poor countries, or, at the very least, it may open the door to further criticisms of the policies of those governments and play on their political stability. The situation may evolve into street demonstrations and protests against the difficult economic conditions, and governmental collapse may occur in some countries.
3. Increasing migration flows: Given the economic tensions expected for 2023, a large number of citizens may be forced to emigrate abroad in search of hard currency and a better way of life, while increasing migration flows to developed countries may negatively impact those economies. World Bank President David Malpass warned of this situation in an interview at the G20 Summit in Bali in November 2022. He believes that finding debt-relief solutions is an important issue for borrowing countries in order to reduce their heavy burden, which, if it continues, will harm the advanced economies as well in terms of increased migration flows to them.
In sum, given the negative forecast for global economic trends, including the increasingly complex global debt crisis, particularly for developing and poor countries, fears are growing of a new wave of debt defaults. If that happens, it will not cause a global financial crisis because of the small size of those economies relative to the global economy. However, the crisis in developing and poor economies will remain, and those economic pressures may cause dangerous repercussions in those countries, such as worsening famine and further political and social turmoil.
InterRegional for Strategic Analysis
