Research Institute: Assessing Global Debt

Davos edition 2019
Research
Institute
Assessing Global Debt
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Thought leadership from Credit Suisse Research and the world's foremost experts
Introduction
-
Urs Rohner
2
02 Introduction
04 Executive summary
11 Chapter 1: How debt has evolved since

the Global Financial Crisis
21 Chapter 2: Government debt – will the

end of QE trigger defaults?
33 Chapter 3: Banks – after ten years of

“repentance,” new “sins”?
49 Chapter 4: Emerging markets – great

diversity, but few systemic risks
57 Chapter 5: China – a challenging path

out of excessive indebtedness
67 Chapter 6: Corporate debt – declining

quality on the growing fringes
79 Chapter 7: Real estate – some overheated

markets, but less toxic debt
88 About the authors
90 General disclaimer /
important information
CREDIT SUISSE AG
credit-suisse.com/ researchinstitute
Assessing Global Debt 3

Executive summary
China and US corporates the main Debt has risen to a new historic high….
pressure points
Figure 1: Credit gaps are very diverse, but have mostly narrowed since the crisis
100
80
60
40
20
0
-20
-40
-60
-80
-100
-120
India
Indonesia
Spain
Japan
United States
Sweden
Q1 2009 Q2 2018
4
1 - -
Figure 1)
poses risks, mainly to others
…but so long as real interest rates -

remain low, higher debt is sustainable
(Figure 2) -
Figure 2: Low real interest rate increases debt sustainability
10
-2
-4
1953 1963 1973 1983 1993 2003 2013

Italian debt is as sustainable as Japan’s, Fiscal discipline has been better in most
absent political tail risk other major emerging markets
The quality of key segments of the US

corporate debt market has been deteriorating
Reduced leverage is the key reason to
- worry less about a bank-triggered crisis
China’s high debt likely to be tackled

Some real estate markets have overheated
on the back of cheap debt
-
-
6
balance sheets

A guide to sources
for debt data
Bank for International Settlements
World Bank
Institute of International Finance
8
International Monetary Fund

10
1. How debt has evolved since
the Global Financial Crisis
Global debt has reached almost three times global Gross Domestic
Product (GDP) and international financial institutions as well as other
observers are issuing warnings intermittently about the seemingly
unsustainable accumulation of debt. In this chapter, we provide a
broad overview of debt accumulation since the financial crisis, while
the following chapters look in greater detail at the developments and
vulnerabilities of individual regions and sectors.
Figure 1
Household and bank deleveraging in

advanced economies
Figure 2 As shown in Figure 2
-
-
Figure 3

Figure 1: Global debt
300
250
200
150
100
50
0
1999 2001 2003 2005 2007 2009 2011 2013 2015 2017
Figure 2: Debt in major regions
450
400
350
300
250
200
150
100
50
0
1999 2001 2003 2005 2007 2009 2011 2013 2015 2017
Figure 3: Developed markets – private sector debt declined, public sector debt increased
140
120
100
80
60
40
20
0
1995 1997 1999 2001 2003 2005 2007 2009 2011 2013 2015 2017
12
Figure 4: Strong expansion of US corporate debt
66
64
62
60
58
56
54
52
50
2010 2011 2012 2013 2014 2015 2016 2017 2018
Figure 4
Figure 5)
Figure 5: Households have not deleveraged everywhere
USA
Spain
UK
Japan
Sweden
-50 -40 -30 -20 -10 0 10 20 30

Figure 6: US student loans surged after the crisis
20
18
16
14
12
10
0
2003 2004 2006 2007 2009 2010 2012 2013 2015 2016 2018
Figure 7: Weak growth a partial cause of government debt build-up
70
60
50
40
30
20
10
-10
Spain Japan USA UK
14
Emerging market debt build-up mainly by
corporates
Figure 6)
Figure 7 Figure 8)
120
100
80
60
40
20
0
1995 1996 1998 1999 2001 2002 2004 2005 2007 2008 2010 2011 2013 2014 2016 2017

Figure 9
Figure 9: Most emerging markets have increased foreign currency debt exposure since the crisis
200
180
160
140
120
100
80
60
40
20
0
India
Indonesia
2009 2018
16
Debt crises: Commonalities
and differences
Year Crisis Causes and impact
1980s
1982

1985
1989
1998
2002
18
2008
2018
2018

20
2. Government debt – will the
end of QE trigger defaults?
Quantitative easing reduced the fiscal burden of advanced economy

governments by lowering interest rates and by replacing interest-
bearing government debt with zero-interest-bearing cash. If govern-
ments do not rein in their deficits as quantitative easing ends, the
resulting rise in interest rates could, in principle, trigger defaults.
-
-
-
Figure 1
(see Figure 7 -
Figure 3

Figure 1: Advanced economy government debt ratio almost back to its 1945 peak
180
160
140
120
100
80
60
40
20
0
1800 1820 1840 1860 1880 1900 1920 1940 1960 1980 2000
Figure 2: The interest burden of governments has remained moderate so far
30
25
20
15
10
0
1990 1995 2000 2005 2010 2015
Spain
Japan United States
Figure 3: How central banks accumulated assets
14
12
10
0
2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019
Fed
22
QE alleviated the debt burden
Figure 2 Figure 4
in Figure 2
Figure 4
Figure 3 The ending of QE potentially raises

default risks
100
90
80
70
60
50
40
30
20
10
0
Japan USA Spain UK

Figure 5: How debt sustainability would be affected by an interest-rate shock
-1
-2
-3
-4
Japan USA Spain UK
-
3 -
Figure 5
As Figure 5
t=dt-1(it–yt )-pbt+sft t
dt-1
yt is the
pbt sft
Figure 5
t=0
dt-1(it–yt ) = pbt
yt
pbt
24
-
Japan: So far no signs of unwillingness to

accumulate non-interest-bearing cash
Eurozone: Solvency and default are
political choices
Figure 5
Figure 6
-
Figure 4
Figure 4

0
-1
-2
-3
-4
-5
-6
-7
2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017
26
120
100
80
60
40
20
0
1970 1975 1980 1985 1990 1995 2000 2005 2010 2015 2020 2025
USA and UK: Currency declines instead

of debt crises?
Figure 7

Risk scenarios: Rising real yields more
worrying than slower growth or deflation
Defaults unlikely, an eventual return to

QE quite possible
28
TARGET2 imbalances: Not a sign of a
heightened default risk in the Eurozone
Recent increase in imbalances due to QE
Figure 1

What if someone leaves after all?
1500
1000
500
-500
-1000
-1500
2009 2010 2011 2012 2013 2014 2015 2016 2017 2018
Spain
30
32
3. Banks – after ten years
of “repentance,” new “sins”?
Ten years ago, low-quality “toxic” assets and the shortage of capital
combined to bring the banking system in the USA and Europe to the
brink of collapse. In the Eurozone, the high exposure of banks in the
“periphery” countries to fragile government debt triggered a second
serious crisis after 2010. Deleveraging in combination with a moderated
overall risk profile of banks’ balance sheets has since reduced systemic
risk in key countries. However, some new areas of risk have emerged,
partly on the fringes of the formal banking sector. In contrast to the
pre-crisis period, monetary policy tightening now represents less of a
threat; in fact, banks would on balance benefit from monetary policy
normalization.
(Figure 1
-
(Figure 2 Figure 4
Figure 3

Figure 1: Capital strength has generally increased
Spain
USA
Japan
UK
Sweden
0 5 10 15 20 25
2010 2017
Figure 2: Banks have until recently reduced debt exposure
40000
35000
30000
25000
20000
15000
10000
5000
0
2000 2002 2004 2006 2008 2010 2012 2014 2016
Figure 3: Higher and more stable liquidity
25
20
15
10
0
2000 2002 2004 2006 2008 2010 2012 2014 2016 2018
USA Japan UK
34
Figure 4: US banks wrote off bad loans much more aggressively
0
2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016
USA
Figure 5: Since 2015, bad loans have also declined in the Eurozone
1200
1000
800
600
400
200
0
2009 2010 2011 2012 2013 2014 2015 2016 2017

Figure 5
-
Figure 6 Figure 7
Figure 6: Cross-border lending has stagnated since the crisis
40
35
30
25
20
15
10
0
1990 1993 1996 1999 2002 2005 2008 2011 2014 2017
Figure 7: European and US banks reduced cross-border lending
10
9
8
7
6
5
4
3
2
1
0
1990 1993 1996 1999 2002 2005 2008 2011 2014 2017
UK USA
36
1 to
Figure 8
-
Figure 8
-
-
Figure 9
1. Banks located in one of the 47 BIS reporting countries.
Figure 8: Lending to emerging markets continued to expand after a short-lived dip
2500
2000
1500
1000
500
0
1977 1981 1985 1989 1993 1997 2001 2005 2009 2013 2017
Figure 9: Interbank lending mainly to Asian emerging markets
2500
2000
1500
1000
500
0
1977 1981 1985 1989 1993 1997 2001 2005 2009 2013 2017

-
end-2013 and end-2017 (Figure 11
Figure 10
Figure 10: A larger share of banks’ liabilities consists of deposits
USA
Japan
-2 0 2 4 6 8 10 12 14
38
Figure 11: Exposure to derivatives has dropped
800
700
600
500
400
300
200
100
0
1998 2000 2002 2004 2006 2008 2010 2012 2014 2016
New “sins”? Selective increase in

risk exposure…
-
Figure 12

-
Figure 13
Figure 12: Retrenchment in some, rapid expansion in other countries
600
500
400
UK
Sweden
300
200
Japan
100
USA
0
-150 -100 -50 0 50 100 150
Dec 2007 and Dec 2017
40
… and potential pressure points
-
2
-
2. Defined as the cross-border and local USD claims of non-US

banks, as well as the cross-border USD claims of US banks,
according to the Bank for International Settlements (BIS) loca-
tional banking statistics by nationality of reporting banks.
Figure 13: Leveraged loan issuance has surged in the post-crisis years
225
200
175
150
125
100
75
50
25
0
2011 2012 2013 2014 2015 2016 2017 2018

Figure 14
Figure 15
3
Figure 16
3. The premium for US dollar demand is translated into a

negative CCBS
Figure 14: The international supply of US dollar bank credits is dominated by non-US banks
18
16
14
12
10
0
1996 1998 2000 2002 2004 2006 2008 2010 2012 2014 2016 2018
42
-
Figure 15: Libor-OIS spread has widened recently
70
60
50
40
30
20
10
0
2011 2012 2013 2014 2015 2016 2017 2018
Figure 16: Large swings are not unusual for CCBS
50
-50
-100
-150
-200
-250
2011 2012 2013 2014 2015 2016 2017 2018

Conclusion: Bank leverage unlikely to
trigger a new crisis
44
New financial stability risks beyond
bank balance sheets
1 Figure 1
Post-crisis expansion of new shadow banks 2

in the USA and China

Figure 2
Remaining “gray zones”
Figure 1: Growth in global shadow-banking assets driven by investment vehicles
20
15
10
-5
-10
2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016
46
Figure 2: Universe of non-banks extends beyond shadow banks
- -

48
4. Emerging markets – great
diversity, but few systemic risks
While the financial vulnerability of some emerging economies has

increased since the financial crisis, the risk of a systemic crisis being
triggered by any of these economies seems much lower than in the
late 1990s. After declining, overall debt ratios as well as the govern-
ment debt ratios have increased again in most countries over the past
ten years or so, but so has the ability of most countries to service
debt. Moreover, the quality of policymaking has generally improved
significantly, allowing them to better deal with external shocks.
-
Figure 4
Figure 1
A more detailed vulnerability scorecard
(Figure 2
Figure 3

Figure 1: Substantial reduction in external imbalances since the 1990s
20
15
10
-5
-10
India
Indonesia
2006 - 2007 2016-2017
Figure 2: Debt ratios generally somewhat higher than ten years ago
350
300
250
200
150
100
50
0
India Indonesia
2017
50
Figure 3: Government debt ratios generally far below those in advanced economies
80
70
60
50
40
30
20
10
0
India Indonesia
2017
Figure 4: Emerging market borrowing rates much lower than in the late 1990s
16
12
0
1998 2002 2006 2010 2014 2018

Figure
5 -
Figure 5
Figure 5: Overall score correlates fairly closely with debt risk
800
700
600
500
400
300
200
Indonesia India
100
0
0 2 4 6 8 10 12 14 16 18 20
52
Middle East: The new debt issuers
Figure 1: Government debt in the Middle East
200
180
160
140
120
100
80
60
40
20
0
2000 2002 2004 2006 2008 2010 2012 2014 2016

-
-
Figure 1 -
54
56
5. China – a challenging path
out of excessive indebtedness
Since the financial crisis, China’s government has tried to maintain

high economic growth rates with aggressive credit expansion. As the
marginal growth impact of credit expansion decreased over time, the
debt-to-GDP ratio surged. Since 2016, the government has cautiously
shifted policies toward limiting leverage. We believe the country’s
growth potential should suffice to gradually reduce the debt-to-GDP
ratio, but some “financial repression” will likely continue to be required
to support the debt.
Figure 2

Figure 1: China’s debt growth post-2009
350
300
250
200
150
100
50
0
1997 2000 2003 2006 2009 2012 2015 2018*
1997-2007 2008-2018 *
58
1 Inefficiency of debt build-up
-
Figure 3a
Figure 3b
10
-5
-10
-15
-20
-25
1996 1998 2000 2002 2004 2006 2008 2010 2012 2014 2016
6
4
2
0
-2
-4
-6
-8
-10
-12
-14
1966 1976 1986 1996 2006 2016

External vulnerabilities add to deleveraging
pressure
Figure 4
Figure 5
Figure 4: China’s current account surplus has almost vanished
12
-4
-8
1980 1984 1988 1992 1996 2000 2004 2008 2012 2016
Figure 5: China’s foreign borrowing has increased considerably
2001 2003 2005 2007 2009 2011 2013 2015 2017
60
Figure 6
Clampdown on shadow banking
- Figure 7
Figure 6: Pressure on shadow-banking products
1500
1000
500
-500
-1000
2015 2016 2017 2018

Figure 7: 2018 saw a marked rise in corporate bond defaults in China
20
18
16
14
12
10
0
2016 2017 2018
Figure 8: Credit growth remains fairly vigorous
40
35
30
25
20
15
10
0
2005 2007 2009 2011 2013 2015 2017
62
(Figure 8 -
3
Muddling out of the debt trap by means of
financial repression

China’s debt overhang may constrain
the Belt and Road Initiative
- Figure 1
Figure 2
-
Figure 1: Credit ratings of BRI countries
64
Figure 2: Debt of many BRI countries has increased substantially
120
100
80
60
40
20
-20
Macedonia
Indonesia

66
6. Corporate debt – declining
quality on the growing fringes
Globally, and especially in the USA, leverage of non-financial corporates

has increased significantly since 2014 and has now surpassed the
pre-crisis peak. Average measures of credit quality have in the meantime
decreased. Within the investment grade bond segment, some highly
indebted “old economy” companies are under significant pressure. In
high yield, financial discipline has increased since 2015, but lower-quality
leveraged loans have surged. An economic downturn would likely provoke
a marked rise in defaults. The moderate exposure of banks to leveraged
loans limits systemic risks, however.
Figure 1
Figure 2
A big shift from banks to bonds since
the crisis
1
Figure 2
Figure 3

12
10
0
1981 1984 1987 1990 1993 1996 1999 2002 2005 2008 2011 2014 2017
85
75
65
55
45
35
25
1952 1960 1968 1976 1984 1992 2000 2008 2016
Figure 3: Corporate bond spreads dropped to almost mid-2000 levels in the post-crisis period
700 1200
600 1000
500 800
400
600
300
400
200
100 200
0 0
1999 2001 2003 2005 2007 2009 2011 2013 2015 2017 2019
AAA AA A
68
(Figure 4
Surge in US issuance followed by slowdown
Figure 4: Corporate bond issuance has increased massively since the crisis
14 18
16
12
14
10
12
8 10
6 8
6
4
4
2
2
0 0
2000 2003 2007 2010 2013 2017*
United States

Figure 5a: US investment grade corporate leverage surged after 2013
2008 2009 2010 2011 2012 2013 2014 2015 2016 2017
2 6
0 0
2003 2005 2007 2009 2011 2013 2015 2017
Figure 6: Decline in interest coverage within investment grade
2008 2009 2010 2011 2012 2013 2014 2015 2016 2017
70
Figures 5a and 5b -
Gradual deterioration of credit quality in

Figure 6 investment grade area, but improvements
in high yield
Figure 5a
(Figure 7
Figure 7: More or less neutral picture with regard to rating changes
0
1981 1984 1987 1990 1993 1996 1999 2002 2005 2008 2011 2014 2017

Figure 8: Quality deterioration in US investment grade
2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019
Figure 9: Declining leverage in the high yield area
2008 2009 2010 2011 2012 2013 2014 2015 2016 2017
Figure 10: Recovery in high yield interest coverage since 2015
2008 2009 2010 2011 2012 2013 2014 2015 2016 2017
72
Rising risks in leveraged loans
Figure 8
Figure
9 Figure 10
Figure 11
Figure 11: Surge in non-capital-market borrowing
800
600
400
200
0
1999 2001 2003 2005 2007 2009 2011 2013 2015 2017
Figure 12: Increasing leverage in the corporate loan market
2001 2003 2005 2007 2009 2011 2013 2015 2017 3Q18

Defaults to rise, but systemic risks
seem limited
-
- -
Figure 12
74
Performance of debt markets over
the economic cycle
Figure 1: The US cycle indicator
102
101
100
99
98
97

Figure 1
3
Figure 6: Decline in interest coverage within investment grade
3M cash
3M cash
3M cash
3M cash
76
78
7. Real estate – some overheated
markets, but less toxic debt
“Toxic” mortgage debt that financed overpriced real estate lay at the
heart of the financial crisis. While the crisis markets such as the USA,
Ireland and Spain have rebalanced and households have deleveraged
to a significant degree, a number of other real estate markets have
been heading for a boom since the financial crisis as declining interest
rates have encouraged borrowing and real estate investment.
Table 1
A downshift in credit and property price

Key factors to consider growth, with some exceptions
Figure 1
Table 1

Table 1: Property prices, credit growth and household debt metrics
Nominal Last data point Price-to-rent Credit growth Last data point Debt-to-GDP Debt service Debt service
property prices ratio ratio 2008 ratio 2017
New Zealand - -
Canada
Sweden
Norway
Australia
Belgium
United Kingdom
Israel - -
Denmark
Ireland - -
France
Spain
Netherlands
Finland
Austria - -
United States
Switzerland - -
Korea
Germany
Portugal
Greece - -
Italy
Japan
Figure 2
-
A closer look at Germany, Switzerland

and the UK
80
Figure 1: Both credit growth and property price growth have slowed down
2009-2017 2004-2007
160
140
120
100
80
60
40
20
0
Japan
Spain
Sweden
United States
2008

-
Evaluating stability risks from the

creditor’s perspective
-
- 1
82
Table 2: Real estate debt outstanding in the USA, UK, Germany and Switzerland at end-2017
"Volume of loans Residential real CRE and multi- Total real estate Total mortgage debt
outstanding at the end estate debt* family debt debt as % of GDP
of 2017 (in USD bn)"
USA
UK 259
289
733 240 973
Table 2 Covered bonds and securitization markets

since the Global Financial Crisis

Figure 3: Evolution of mortgage securitization issuances
3000
2500
2000
1500
1000
500
0
2000 2002 2004 2006 2008 2010 2012 2014 2016
Figure 3
-
-
-
84
Figure 4: Private real estate debt funds are a growing segment
250
200
150
100
50
0
2000 2002 2004 2006 2008 2010 2012 2014 2016 Sep-18
Quality improvement of lending instruments
Figure 4

Risks also reduced in commercial real Less leverage in commercial real estate
estate lending as well
-
2
-
-
86
Table 3: Real estate debt outstanding in the USA, UK, Germany and Switzerland at end-2017
Prime office NY Tokyo London Berlin Paris Milano Zurich

markets
Currency USD
Prime office
yield
Current office
risk premia 60 235 230 250 210 -10 240
in bp
Historical
average office 199 291 133 217 193 140 180
of risk premia
Rental market
cycle

About the authors
Oliver Adler Florence Hartmann -
Sylvie Golay Markovich

-
Satish Chandra Alur
Mariano Arrieta
Vibhuti Mehta -
Maxime Botteron Michael O’Sullivan
88
Krithika Subramanian
Zoltan Szelyes
Acknowledgments

General disclaimer /
important information
Germany
United States and Canada

Switzerland
Brazil
Mexico
-
Japan -
-
Hong Kong
Australia
Thailand
Malaysia
India
South
- Korea
Taiwan
Philippines
-
Additional regional disclaimers

Hong Kong
European
Union (except Switzerland)
90
USA
Malaysia
EU
Singapore
UK

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Davos edition 2019

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11 Chapter 1: How debt has evolved since

21 Chapter 2: Government debt – will the

33 Chapter 3: Banks – after ten years of

49 Chapter 4: Emerging markets – great

57 Chapter 5: China – a challenging path

67 Chapter 6: Corporate debt – declining

79 Chapter 7: Real estate – some overheated

88 About the authors

Assessing Global Debt 3

poses risks, mainly to others

…but so long as real interest rates -

Figure 2: Low real interest rate increases debt sustainability

Assessing Global Debt 5

The quality of key segments of the US

China’s high debt likely to be tackled

Assessing Global Debt 7

Bank for International Settlements

Institute of International Finance

Assessing Global Debt 9

Household and bank deleveraging in

Figure 2 As shown in Figure 2

Assessing Global Debt 11

Figure 2: Debt in major regions

Figure 5: Households have not deleveraged everywhere

Assessing Global Debt 13

Figure 7: Weak growth a partial cause of government debt build-up

Assessing Global Debt 15

Year Crisis Causes and impact

Assessing Global Debt 17

Assessing Global Debt 19

Quantitative easing reduced the fiscal burden of advanced economy

Assessing Global Debt 21

Figure 2: The interest burden of governments has remained moderate so far

Figure 3: How central banks accumulated assets

Figure 3 The ending of QE potentially raises

Assessing Global Debt 23

Japan: So far no signs of unwillingness to

Assessing Global Debt 25

USA and UK: Currency declines instead

Assessing Global Debt 27

Defaults unlikely, an eventual return to

Recent increase in imbalances due to QE

Assessing Global Debt 29

Assessing Global Debt 33

Figure 2: Banks have until recently reduced debt exposure

Figure 3: Higher and more stable liquidity

Assessing Global Debt 35

Figure 6: Cross-border lending has stagnated since the crisis

Figure 7: European and US banks reduced cross-border lending

1. Banks located in one of the 47 BIS reporting countries.

Figure 8: Lending to emerging markets continued to expand after a short-lived dip

Figure 9: Interbank lending mainly to Asian emerging markets

Assessing Global Debt 37

end-2013 and end-2017 (Figure 11

Figure 10: A larger share of banks’ liabilities consists of deposits

New “sins”? Selective increase in

Assessing Global Debt 39

Figure 12: Retrenchment in some, rapid expansion in other countries

Dec 2007 and Dec 2017

2. Defined as the cross-border and local USD claims of non-US

Assessing Global Debt 41