New York: A “severe recession” is likely next year, warned renowned economist Nouriel Roubini who predicted the 2007-2008 global financial crisis. Also known as Dr. Doom in Wall Street, Roubini alarmed the markets, saying that the economy is headed into a “Bermuda Triangle” of danger.
In a recent interview with the McKinsey Global Institute’s Forward Thinking podcast, Roubini said as central bankers continue to tighten monetary policy, the economy was risking another financial crisis.
The US Federal Reserve, or Fed, on Wednesday, hiked interest rates by another 25 basis-points and have increased rates 475 basis-points over the last year to control inflation. Last week, the European Central Bank increased its policy rate by 50 basis points.
‘Huge buildup of debt’
Roubini warned about the “huge buildup of debt” worldwide in recent decades. He said bankrupt “agents” or “zombies” — whether households, corporations, financial institutions, governments, or countries — were able to survive despite high debt levels due to low interest rates.
“Even institutions that were effectively insolvent and bankrupt could survive. And during the GFC, we bailed them out,” the economist said.
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He went on to say that they were bailed out again during the Covid crisis, where initially there was a massive backstop of every type of institution.
Central banks in ‘lose-lose position’
Dr. Doom said the central banks are currently in a lose-lose position. He stated that increasing rates could shake the banking system as well as lead to greater instability, but lowering them could result in higher inflation.
“It’s too late to find a solution that prevents a hard landing and prevents severe financial stresses,” Roubini told Bloomberg TV earlier this week.
‘Avoided debt crisis a couple of times’
In his interview to Forward Thinking, Roubini said: “We avoided the debt crisis a couple of times.”
“We kicked the can down the road. We bailed out and backstopped a lot of people. But now the game is over because you have inflation and you have to raise interest rates… so that’s where the risk of the mother of all debt crises occurs,” he said.
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When will things break?
When asked if there’s a particular trigger to watch for, Roubini highlighted a few factors.
First, he said, “For households and corporates, your income is falling. Households, because of falling real wages and potentially unemployment. For firms, because your profits are reduced if your revenues are falling. So that’s your P&L, there’s already stress.”
He went on to say that asset prices saw a decline as companies have faced higher borrowing costs and reduced liquidity. “Even cash gave you a negative real return because of inflation,” Roubini added.
The economist said that a highly leveraged household or company have a shock to debt servicing capacity.
‘Bermuda Triangle’ of danger
Linking the danger to the Bermuda Triangle, Roubini said: “You have a hit to your income, to your asset values, and then to the burden of financing your liabilities. And then you end up in a situation of distress if you’re a highly leveraged household or business firm.”
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“If such distress is widespread enough, you end up with a systemic crisis in household and corporate debt, with defaults and delinquencies,” he said, adding that he sees the situation coming to real soon.
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