Debt levels that ran up ahead of the financial crisis have shown only a modest decline since and are likely to fall sharply in the coming years, a study said.
Household and corporate debt soared in many countries prior to the recent global financial crisis, but a report published on Sunday by the Bank for International Settlements (BIS) showed that in almost all past crises the debt increase was reversed once trouble fades. "The historical record casts doubt on whether debt reduction can be avoided ... we find that what goes up tends to come down," the BIS said.
Its analysis of 20 systemic banking crises that were preceded by a surge in credit showed there was a subsequent sharp fall in indebtedness after 17 of them. The ratio of credit to the private sector to GDP fell by an average of 38 percentage points after these 17 crises, compared to an average 44 percentage point jump in debt before the crisis, according to the BIS, the co-ordinating body for the world's central banks.
US households increased their debt level to more than 130 percent of disposable income in 2007 compared to about 100 percent in 2000. The ratios in British and Spanish households increased by about 60 percentage points to 160 percent and 130 percent, respectively, in the same period. Non-financial corporations in many countries also increased their debt substantially.
Households in some countries have started to reduce debt, the BIS said, but ratios remain well above levels at the outset of the housing boom, suggesting a much bigger drop will occur.
Debt ratios have typically been cut by borrowers paying off or defaulting on their loans, a rise in economic growth, or inflation. Each of the three effects has had similar roles in past crises, the BIS said. There is concern a sharp drop in debt will lead to low economic growth, but the BIS said its analysis casts doubt on this. "Growth rebounds rather quickly in most of our episodes, even though debt ratios continue to fall.
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