March 22, 2019

What Will Cause the Next Recession? A Look at the 3 Most Likely Possibilities

The rise in debt loads overseas, especially in emerging markets, is even greater, according to McKinsey’s data — as is a shift toward more debt being owed by riskier borrowers.

Essentially, businesses have been in a sweet spot for years, in which profits have gradually risen while interest rates have stayed low by historical measures. If either of those trends were to change, many companies with higher debt burdens might struggle to pay their bills and be at risk of bankruptcy.

The 2020 train wreck narrative could intersect with the corporate debt boom. If inflation were to get out of control and the Fed raised interest rates sharply, companies that can handle their debt payments at today’s low interest rates might become more strained. Moreover, with federal deficits on track to rise in the years ahead, the federal government’s borrowing needs could crowd out private borrowing, which would result in higher interest rates and even more challenges for indebted companies.

The International Monetary Fund included a warning about this run-up in global corporate debt in its most recent Global Financial Stability Report. If inflation were to rise more quickly, Tobias Adrian, an I.M.F. official, said in a news conference, it could “trigger a sudden tightening in financial conditions and a sharp fall in asset prices,” which is I.M.F.-speak for the kind of thing that can endanger economic growth.

Susan Lund, a partner at McKinsey, does not see the rise in debt as likely to cause some macroeconomic crisis, but said it could cause distress for individual companies.

“I think there will be a rise in defaults, but I’m not alarmed,” she said. “I don’t see systemic interlinkages.”

The 2007 housing downturn became a 2008 global financial crisis because mortgage-backed securities were stuffed throughout a highly leveraged global financial system. The 2000 dot-com crash became a 2001 recession because it triggered a broader pullback in corporate investment.

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