Asset price inflation over the past two decades has created about $160 trillion in “paper wealth” while economic growth was sluggish, inequality rose, and every $1 in investment generated $1.90 in debt. Yet current tremors in the financial system may signal a lasting shift in how the world borrows, lends, and creates wealth, according to the McKinsey Global Institute (MGI).
In a new report, The future of wealth and growth hangs in the balance, MGI looks at four scenarios for inflation, interest rates, and growth to 2030, and considers their implications for real estate, equity, and debt. The report is part of an ongoing research series exploring the global balance sheet, a tool MGI developed to take stock of global wealth and economic health.
“The turbulence of recent times is a shock to the system after decades of rising paper wealth and debt. We are heading into an era that may not look anything like the last 20 years that shaped the intuition of this generation of business leaders,” said Olivia White, a McKinsey senior partner and MGI director. “The range of possible long-term pathways is unusually wide. That demands longer term thinking and planning for multiple scenarios – reacting to shifts in the macro environment will no longer suffice”
“Asset price inflation over the past two decades has created about $160 trillion in “paper wealth” while economic growth was sluggish, inequality rose, and every $1.00 in investment generated $1.90 in debt. But in three out of four scenarios, the economic and investment landscape of the next 10 years would look materially different from the past 20, as the demand for and supply of capital are structurally shifting”, says Tarek Mansour, a McKinsey senior partner and director of MGI. “As public and private sector actors in the Middle East are experiencing an investment boom in infrastructure, real estate, and corporate assets alike, what can they learn from global trajectories to keep regional balance sheets healthy? Will access to global capital markets become more difficult, and will there be headwinds to returns?”
“There is a growing concern about inflation becoming entrenched. Yet a return to two decades of weak investment, low interest rates and a glut of savings, resulting in slow GDP growth, rising inequality, and unabated expansion of the global balance sheet does not seem like the best outcome either,” said Jonathan Woetzel, a McKinsey senior partner and director of MGI. “If leaders, both corporate and public, channel more investment into accelerating productivity growth it can lead to a Goldilocks outcome in which rapid GDP growth improves wealth and balance sheet health.”
“In the worst case, policy tightening and rising uncertainty could trigger a balance sheet reset, wiping out $30 trillion in paper wealth in the United States alone. Many debt-financed assets would end up underwater, leading to a decade of painstaking deleveraging”, said Jan Mischke, an MGI partner. “But a productivity acceleration is possible, and more urgent today than ever.”
Key findings include:
- Asset price inflation over the past two decades has created about $160 trillion in “paper wealth.” Economic growth was sluggish, inequality rose, and every $1 in investment generated $1.90 in debt. Balance sheet growth further accelerated with the pandemic, with $3.40 new debt for each $1.00 in net investment in 2020-21.
- Current tremors in the financial system may signal a shift in how the world borrows, lends, and accrues value. By late 2022, instability in the global economy and the balance sheet had become apparent. In 2022 alone, households lost $8 trillion of wealth.
- Three of the potential scenarios are far from ideal—two are “pick-your-poison” and the third a double dose. In a “return to the past” scenario, volatility may prove temporary and balance sheet expansion may resume as savings bid up the price of existing assets once again rather than flow to productive investments. In a “higher for longer” scenario, growth may slow with persistently high inflation and interest rates, resembling the US economy after the 1970s oil shock. The worst case—a “balance sheet reset” scenario would look more like Japan after its real estate and equity bubble burst in the 1990s with drawn-out deleveraging and a sharp contraction in asset prices—for instance, US equities and real estate values might drop by more than 30 percent between now and 2030.
- By far the most desirable is the “productivity acceleration” scenario, in which economic growth catches up with the balance sheet. Only this scenario combines strong growth in income, wealth, and balance sheet health.
- The stakes are high. The differential impact of the scenarios on economic output is enormous, but the fall-out for the global balance sheet an order of magnitude larger still. A balance sheet reset in the United States would lower per capita GDP by 1.7 percent in annual average GDP growth versus accelerated productivity. Total household wealth in the US would be $48 trillion lower.
- Decision makers will need the imagination to prepare for the full range of scenarios, while maintaining steadfast determination to achieve the best. Accelerating productivity growth will require countering headwinds such as aging or more complex supply chains, through well-directed investment to realize the value of both technology and human capital. The die is not yet cast.
Notes: This report is the third in MGI’s series on the global balance sheet. In this paper, MGI focuses on the United States, Germany, and the United Kingdom. In 2021, MGI published The rise and rise of the global balance sheet: How productively are we using our wealth? In 2022, the second paper, Global balance sheet 2022: Enter volatility, was published. To construct a balance sheet of the world, MGI added up all the real assets in the economy (for example, real estate, infrastructure, machinery, commodities, and intangibles) as well as all financial assets and liabilities (for instance, equity, debt, loans, deposits, pension assets, and liabilities). All sectors are included—households, government, nonfinancial and financial corporations.
The report is available at https://www.mckinsey.com/mgi/overview/the-future-of-wealth-and-growth-hangs-in-the-balance
The McKinsey Global Institute (MGI) was established in 1990. Our mission is to provide a fact base to aid decision making on the economic and business issues most critical to the world’s companies and policy leaders. We benefit from the full range of McKinsey’s regional, sectoral, and functional knowledge, skills, and expertise, but editorial direction and decisions are solely the responsibility of MGI directors and partners. We aim for independent and fact-based research and analysis. None of our work is commissioned or funded by any business, government, or other institution; we share our results publicly free of charge; and we are entirely funded by the partners of McKinsey. For further information about MGI and to download all reports for free, please visit www.mckinsey.com/mgi.
