On a fundamental level, the concept of ‘bad debt’ may seem like a strange one. After all, this implies that there is a phenomenon known as ‘good debt’, which is at odds with basic economic principle and money management lessons.
We must remember that a number of leading economies have broad deficits and carry significant amounts of debt, however, with the nature of these liabilities crucial to determining their growth prospects and underlying credit rating.
In this post, we’ll look at bad debt and which countries are reliant on this, while asking how credit rating averages can be used to appraise the strength of economies.
What is Bad Debt?
Put simply, the term bad debt refers to outstanding liabilities that are unlikely to ever be repaid. We’ve seen various examples in which economic growth has been built on this type of debt, usually with extremely damaging long-term consequences.
The best example was provided by the subprime mortgage crisis of 2008, which originated in the U.S. and precipitated the great recession. In this instance, sustained economic growth was built on bad debt and unsustainable products such as 100% mortgages, which amounted to billions of dollars that ultimately had to be written off by banks and lending institutions.
In more recent times, we’ve seen the buoyant Chinese economy boom on the back substantial debts, with long-term credit risks capable of triggering another global financial crisis in the future.
China, which is expected to supersede the U.S. as the world’s largest economy before 2030, is far too reliant on huge reserves of unsustainable debt, and as this bubble continues to grow so too will the uncertainty facing the nation’s future.
Can we use Credit Ratings to Ascertain the Strength of Economies?
The distinction between good and bad debt is an important one, while it’s also factored into the credit rating averages applied to economies across the globe.
Just as individuals will see their credit score influenced by various interactions with lenders such as Ocean Finance, so too nations will receive an objective credit rating based on an array of factors. These ratings are assigned on a sliding scale, with AAA indicative of an ‘excellent’ standing and D existing at the lowest end of the spectrum.
One of the key factors used to determine an economies credit rating is its future potential. More specifically, analysts will review an economy and its long-term outlook, based partially on the volume and the nature of its debts.
Those that are reliant on bad or unsustainable debt will ultimately be awarded a lower rating, in accordance with other factors appraised by credit agencies.
Make no mistake; however, credit rating averages can be used to ascertain the general strength or weakness of an economy and the level of bad debt that underpins it.
Sources: investopedia.com / telegraph.co.uk / fortune.com