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On Friday, June 12, 2020, Kenneth Rogoff joined the Princeton Bendheim Center for Finance to discuss the implications of COVID-19 for global sovereign debt and the dollar. Rogoff is a Professor of Public Policy and Economics at Harvard University and a former Chief Economist of the IMF.

Watch the full presentation below and download the slides here.  You can also watch all Markus’ Academy webinars on the Markus’ Academy YouTube channel.

Executive Summary

Double-dips are common in financial crises, and we should expect one this time around. Looking at 100 past systemic financial crises, more than 40% had a double-dip. See table of statistics on 100 past systemic financial crises.

In emerging markets, there is limited fiscal space and debt restructuring may need to happen in order to handle the health crisis. The big build-up in debt often piles up in the private sector. However, during crises private debt ends up becoming public debt. In a crisis, this often piles up. Emerging markets run into multiple equilibrium and default at much lower thresholds than advanced economies.

In advanced economies, political considerations will play a major role in how to address outstanding debt. There’s a lot of implicit debt outstanding, with countries like the U.S. and Italy owing bondholders, but also pensioners. While the market might think governments will trim benefits like social security and treat explicit government debt as senior, that shouldn’t be taken for granted. It’s not clear how the political economy considerations will play out. Pensioners are also a powerful voter base.

The dollar will remain the dominant currency, but the U.S. could become fragile if foreigners were to ever become wary about holding U.S. debt. “We live in a dollar world,” Rogoff said repeatedly, but argues it’s important to question how safe foreign investors will feel if there are concerns about U.S. pensioners or excessive austerity. See map of the geography of anchor currencies in 2015.

Governments should be spending to mitigate the pandemic and the recession, treating the crisis like “war financing,” but the idea that there’s no cost to high debt is a dream. To start, Rogoff argues, it makes governments more reluctant to do a full-on bailout when the next crisis hits, which could be a cyber virus.