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Remember the Great Recession and all the devastation and uncertainty that crisis brought? Well, the global economy has since recovered, and governments have put many measures in place to guard against the conditions that led to that crisis. However, that doesn't mean that it couldn't happen again.
Many economists and other experts are concerned that another financial crisis may be looming around the corner; this time, they believe soaring debt levels may derail the global economy. Let's look at five alarming debt trends that experts believe could lead to another major economic crisis if we aren't careful.
Global debt levels are too high
High debt played a key role in the 2008-2010 financial crisis. Now, debt is soaring once again; in fact, total outstanding global debt is approaching $200 trillion, which is more than 40% higher than it was in 2008. These high debt levels render the entire economic system as vulnerable as it was during the last crisis. A sharp correction or economic downturn could make debt repayment for governments, businesses, and households difficult, leading to massive defaults and putting the entire economic system at risk.
High debt is threatening economic growth
According to the International Monetary Fund, comparing the ratio of debt to gross domestic product (GDP) is a good indicator of a country's potential for economic growth, or lack thereof. When debt surpasses 30% of GDP, these high debt levels can harm long-term growth. When debt surpasses 65% of GDP, many economists consider financial stability to be at risk.
In many Western countries, such as the United States, Canada, the UK, and Sweden, the debt to GDP ratio is now over 70%; Austria and Switzerland's ratios have surpassed 120%. While other economic indicators such as employment and stock indexes remain strong, these high debt-to-GDP ratios are certainly a cause for concern.
Debt uncertainty in China
While many financial analysts have incorrectly predicted China's economic downfall over the years, its current debt levels are a serious issue with global implications. Like many Western economies, China has an extremely high debt-to-GDP ratio. However, unlike the U.S. and Europe, China has refused to take many of the measures necessary to address rising debt levels, such as placing more controls on credit standards or taking government action to deal with problematic credit. As a result, many experts believe that China's debt situation is even more precarious than the situations faced by its Western counterparts.
A sudden downturn in China's economy could exacerbate its debt crisis and further stall an already modest economic growth rate. Any major economic downturn in China would have cascading effects on the global economy and could lead the world into another economic crisis.
Too few lessons learned from the Great Recession
While the United States and other governments have revised their regulatory frameworks in the wake of the last recession – particularly in areas of real estate transactions – there were other missed regulatory opportunities that leave global economies ripe for another crisis. The speculation that in part drove the subprime crisis, which marked the start of the last recession, still exists in today's economy.
So-called shadow banking, a form of poorly regulated, highly speculative lending, is on the rise in places such as China and other major economies. The frenzy surrounding sparsely regulated cryptocurrencies such as Bitcoin, much of it financed with unsecured debt, should make people who remember the beginning of the subprime crisis a bit nervous. There's no regulatory framework in place to prevent a bubble on many of these speculative, debt-fueled markets, and their collapse could definitely provide the spark that leads to another economic crisis.
Less government tools available to fight off the next economic crisis
While estimates vary, most reviews of the tax reform package recently signed into law indicate it will add $1 trillion or more to the Federal deficit. While there are certainly economic advantages to the tax reform bill, the high deficits it creates may leave the Federal Government with fewer tools available to deal with the next major economic crisis.
With less tax revenue coming in, and deficits already high, it'll be difficult for the government to further increase spending to stimulate the economy during the next crisis. The government won't be in a position to pass legislation like 2009's $787 billion American Recovery and Reinvestment Act, which helped to stimulate the economy and pull it out of the last recession. Therefore, if another crisis hits, the government's hands may be tied.
Is another major economic crisis right around the corner? Perhaps not, as many of the major global economic indicators are strong right now. However, those who believe another global economic crisis could never happen again haven't paid enough attention to recent history. There are major issues worldwide with the high levels of debt being carried and the tepid ways most governments are dealing with it. If we do see another economic crisis in the near future, it'll likely arise due to a collective unwillingness to address these high debt levels, and so it's a good plan to make sure you're prepared should another economic crisis strike.