Inflation is helping to reduce countries’ debt after record 2020

The rise in inflation and the recovery of the economy will make a significant contribution to reducing global government debt in the period 2021-2023, after the explosion in spending that took public debt to record levels in 2020.

The impact of economic growth on debt reduction was greater last year and will weaken from this year onwards. The inflationary phenomenon is expected to reach its peak in 2022, according to calculations by the risk rating agency Fitch Ratings.

In Brazil, both factors helped to reduce gross debt in 2021, but this effect will not be repeated in 2022, as several analysts’ projections show.

Fitch report shows that global gross debt grew from 78.8% in 2019 to 93.4% of GDP (Gross Domestic Product) in 2020, due to increased spending related to the pandemic. In 2021, it dropped to 93.1%, according to the agency, leaving behind what its analysts estimate was a peak that will not be reached again in the coming years.

The analysis considers 120 countries whose debts are rated by the agency, which projects a debt-to-GDP ratio of 90.4% in 2022 and 2023.

The positive impact of inflation on debt will be 2 percentage points of GDP in 2022, the same as in 2008, both classified as “the most significant inflationary effect in more than 20 years” — the data series starts in 2000. In 2023 , will be 1.5 point.

Rising inflation reduces the value of the debt – or prevents a further increase – as it raises government revenues, which rise with the prices of taxed products. Expenses, such as salaries and other benefits, remain unchanged throughout the year and their real values ​​are eroded by inflation.

The reduction of this indicator also depends on another variable: the interest rate that corrects the indebtedness. In developed economies, with interest rates close to zero and negative real rates, gross debt fell from 117.9% to 114.9% of GDP from 2020 to 2021. And it is expected to fall again in 2022.

Among emerging countries, many with interest rates that began to rise in 2021 to control inflation, indebtedness rose from 56% to 56.3% of GDP in the same comparison and should continue to grow this year and next.

In developed countries, the inflationary effects on the US debt stand out, with a reduction of 5 points in GDP projected for 2022, in the United Kingdom (4.6 points) and Canada (4.1 points). These are countries that have debts and inflation above the median of the group of developed countries.

There are countries where inflation aid is being partially canceled because of the effect of currency devaluation on debt, such as Argentina, Angola, Nigeria and Turkey.

In Brazil, inflation and economic recovery helped to reduce the debt/GDP ratio from 88.6% in 2020 to 80.3% in 2021. These factors also generated the first surplus in public sector accounts since 2013. In 2022, in However, the expectation is that the debt will grow again, in the face of a scenario of stagnation of the economy and high real interest rates.

According to the IFI (Independent Fiscal Institution), a Senate body that monitors public accounts, collection will grow less, in line with a slowing inflation to 5.5% by the end of the year. Expenses will be largely linked to the double-digit advance in prices last year, when the IPCA was 10.06%.

“The IFI has been warning of the unsustainability of fiscal adjustments based on inflation since mid-2021. Let’s keep in mind that gross debt, after ending 2021 at 80.3% of GDP, is expected to grow in this and the coming years. , for example, has already grown by 1 percentage point of GDP throughout 2021 and interest rates on new Treasury issues are advancing month by month,” the institution said in its February monthly report.

Fitch also warns that, although rising prices have a short-term beneficial effect on debt, they tend to negatively impact the indicator over time. As central banks decide to react to rising prices and investors demand higher returns in real terms, nominal interest rates rise and GDP slows.

“Central banks may find it necessary to aggressively raise interest rates, resulting in higher real rates and possibly pushing the economy into recession,” say agency analysts James McCormack and Ed Parker.

Fitch says future debt relief will increasingly depend on fiscal adjustments to improve primary outcomes. It also says that favorable conditions for GDP growth above interest rates have proved not to be sufficient in the recent past.

About two-thirds of the countries analyzed had growth rates above interest rates in the last two decades, but government debt still increased.

In 2023, when the debt level should remain stable, according to Fitch, the only debt reduction factor that will advance in relation to 2022 will be the improvement in the primary result.