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Global Perspectives
The Great Debt Experiment
Our Global Perspectives 'World In 2022' leader, published at the turn of the year, identified key themes that we felt would impact the global economy, including International Finance Centres.
'The Great Debt Experiment' is featured in our top ten themes for 2022.
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After the great financial crisis (GFC) of 2008, government balance sheets expanded rapidly through quantitative easing and the socialisation of private sector debts, with a further uplift seen more recently from pandemic induced borrowing. In the US, total public debt in 2008 was circa $10Trn - Today, US total public debt is approaching $30Trn.
Global debt continued to climb in the first half of 2021 but declined slightly to $296 trillion in Q3, helped by more vigorous economic activity in developed markets. Notwithstanding, debt remained at near all-time highs at over $30,000 for each of the 7.7bn people in the world today. With debt at more than 3 X global annual output, the resilience of the world financial system and its ability to withstand further shocks is the subject of much debate.
For 2022 we predicted that economic stimulus measures were likely to increase public debt levels with associated implications for fiscal sustainability and taxation. In our recent article on the return of inflation, we also highlighted the potential for structural inflation driven by US stimulus packages at greater than 10% of GDP.
Pandemic spending, a slowing of globalisation, geopolitical uncertainty, supply chain disruption, trade wars, real estate debt worries in China, and, more recently, the invasion of Ukraine have all combined to lift public debt and inflation to thirty-year highs, placing significantly increased pressures on both governments and consumer households.
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Equity and debt, the twin pillars of the raw material that is capital, are essential components of the job and wealth-creating trinity of business, labour, and investment. The backdrop outlined in this article sets out the case for what we see as a period of doubling down on private debt and increased demand for its origination, formation, and administration.
Strained public finances and escalating national debt, now at record levels, will have far-reaching consequences. This backdrop will see increased demand for private capital to play a role in economic recovery – with figures recently published by Preqin suggesting the total stock of alternates will surpass $17trn by 2025. We predict that rising public debt's inflationary trends will drive institutional investors to seek growth opportunities with inflation hedging characteristics.
In an environment where the consensus points to long term inflation-adjusted returns being more challenging to achieve, attracting investment into alternatives that afford a degree of inflation 'proofing' will be increasingly attractive. And we see US Treasuries' recent moves back toward positive territory as a portent of higher yields on debt.
Declining inflation, super-low interest rates and accommodating central bank policy created a benign environment for private capital for three decades, beginning in the late 1980s. Still, the return of inflation may prove less transitory and more structural than central banks have presumed. It isn't clear if the central bank prescription of higher interest rates will be sufficiently palatable to the political classes faced with mountainous debt servicing costs and unhappy voters.
Natural resources, commodities, real estate and private debt have built-in hedging qualities against structural inflation. Constrained supply and high demand have boosted energy and food prices, real estate rental incomes are rising due to supply issues and full employment. And private debt is benefitting from the rise in floating rate interest levels.
New issuance of private debt linked to floating-rate benchmarks will tend to rise as central banks respond to inflationary forces by raising interest rates. The higher the base cost of money, the higher the achievable margin. Unlike public markets, private debt is not traded, and the valuation principles can look through periods of short-term market fluctuation, smoothing returns in the process. An Alternative Credit market estimated to be worth $4trn has added significant new capacity to that provided by the banking sector post the GFC of 2008.
Mourant has substantial expertise across our global network of offices in this sector and regularly works, alongside the leading onshore law firms, with specialist banking, asset management and private equity groups to establish alternative credit funds.
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The range of client solutions addressed is extensive, with our global offices having established a strong market position, advising on a wide range of matters. Our offshore finance practice is one of the largest globally. It supports some of the most high profile and complex financings in the market, with particular expertise in debt capital markets and high-value real estate financing.
Our global funds practice is described as being in "a league of its own". Our specialist focus on private capital is highly sought after. We advise many leading asset managers across all asset classes globally and know what is needed for successful deal execution.
Over the last decade, we have supported a substantial increase in alternative lending and financing within the market. With non-traditional funding sources being used to invest in special situations transactions and investment funds looking to capitalise on distressed or non-performing asset transactions for the benefit of their investors. Our highly experienced lawyers work seamlessly across our different practice areas, assisting clients with these often complex transactions.
To access market-leading expertise in the alternative credit markets, please reach out to your nearest Mourant office, where our private debt specialists will be pleased to assist.
About our Blog
Global Perspectives provides regular, on-point commentary on relevant topics in a pithy and accessible way. Our observations and points of view are based on listening hard to clients global needs, priorities and concerns. We draw on insights from every area of our business and collaborate to deliver this global thinking; something that clients tell us is distinctive and sets us apart. If you'd like to find out more, please get in touch.
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About Mourant
Mourant is a law firm-led, professional services business with over 60 years' experience in the financial services sector. We advise on the laws of the British Virgin Islands, the Cayman Islands, Guernsey, Jersey and Luxembourg and provide specialist entity management, governance, regulatory and consulting services.
