Tag Archives: Economic bubble

The Debt is Too Darn High

Apparently, that thing about ostriches sticking their head in the sand is no joke. Nor is it without parallel in the human world.

The other day I cited a study by a several prominent economists. Their research argued, quite persuasively, that excessive debt tends to inhibit economic growth. They looked a thirty year period,  included the debt levels of households, corporations and of 18 OECD governments (such as the UK, Australia, Germany, Norway, Portugal, France, Italy…and so on), and analyzed the effect of the debt on economic growth.

It’s a very interesting study, and coming on the heals of the debt ceiling debate, it reiterated, if indirectly, the arguments many people have made: the debt is too high, and it will hurt our economy.

Still, some people managed to dismiss it. Blithely. The following bullet points are their points.

Never mind that the statement is internally contradictory, here are the facts:

After World War II, the US had lost 418,500 persons, or .32% of its population. With the exception of Pearl Harbor, no battles were fought over US soil, our industrial base had been increased over the course of the war, and US debt was held primarily by American citizens. Further, rationing was utilized and women entered the labor force for the first time in high numbers, filling the gap left by men serving in the armed forces.

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In contrast, while the United States was building its industrial strength, the factories and infrastructure of the rest of the world was collapsing under bombs, bullets, and famine. While only .32% of the US population was killed in World War II (a smaller percentage than even the American Civil War, by the way),  the United Kingdom lost 450,900, or .94% of its population, three times as many killed as US killed. But even  that’s nothing. Recipient countries of the Marshall Plan (Austria, Belgium, Denmark, France, West Germany, the United Kingdom, Greece, Iceland, Ireland, Italy, Luxembourg, the Netherlands, Norway, Sweden, Switzerland,  and Turkey) , the US’s aid program to rebuild Europe, were hit even worse. Austria lost 5.7% of its workforce, Germany between 8 and 10%, Greece between 4 and 11%, France 1.35%, Italy 1%, and Belgium 1%, to name a few. This doesn’t even account for the Soviet Union and its allies who were precluded from the Marshall Plan, or Japan.

Poland lost almost 17% of its population in the war. Lithuania and the Soviet Union each lost about 14% of their populations. In 1939 USSR terms, that means 23,000,000 total deaths.  China, while only losing between 2 and 4% of its population, still had casualties of over 20,000,000, greater than the combined populations of 1945 New York, Chicago, Philadelphia, Detroit, Los Angeles, Cleveland, Baltimore, St. Louis, and Boston. That to the American total casualties of under 500,000, few of which were civilian deaths.

To sum it up, the US left World War Two with high debt, a relatively untouched industrial base, few casualties compared with the rest of the world, and a global market decimated by  war. Is it any wonder we were able to grow dramatically after World War Two?

  • ” But what about crises? This data doesn’t take consider that were in a major crisis now, and we need to spend to get money into circulation.”

In the words of Bart Simpson, “Au contraire, mon frere.” The data actually controls for banking crises.  In fact, high debt may be the cause of such crises in the first place.

[R]elated to the crisis variable, we note that high levels of debt for a country as a whole or for one of its sectors may be a reason why a country may end up facing a banking crisis. But it may also be the reason why a given downturn, originating from events outside the country or the indebted sector, may turn out to be worse than it could have been otherwise. Using this variable thus allows us to check whether or not the effects of debt on growth are related with periods of financial stress.

Worse than it could have been otherwise…kind of makes you wonder if economic growth, which by all reports is now stalled, might be growing instead.

Ok, so I added that last part. The “evil” part.

As for failed, I’d hardly say that. In fact, that we are in the longest period of recession since the Great Depression, that we are increasing our public, person, and corporate debt at an unsustainable rate, and that economists and the credit rating bureaus are starting to engage in dialogue about unsustainable entitlement programs, all seem to show just one result: we need to change what we are doing.

The debt is just too darn high.

Frankly, this has nothing to do with Republicans or Democrats. It has to do with spending. As anyone who has read here with enough regularity knows, I don’t lay the blame for our high debt at the feet of Democrats alone. The Republicans have their pet projects, too, and neither party’s elected officials stand blameless.

However, I did not approach this as a partisan issue. I approached it from the perspective of reporting a highly credible report that just happens to support Republican stands during the debt ceiling debate.

Again, au contraire. This isn’t about what the government needs to do to help people get back to work. It’s what the government needs to stop doing to prevent them from getting back to work.

Don’t get me wrong. I believe that there is a place for government, that government can and does assist the economy, and that no government is a recipe for Somalia. No, I am not making a “smaller government” argument.

What I am arguing is this: the debt is too darn high.

Do I need to say it again? The DEBT IS TOO DARN HIGH.

And it’s hurting the economy.  Some debt is good. Debt, and My Better-half, put me through law school. But research is showing that at a certain level, too much debt begins to sap economic growth. It is, as the report states, a “double-edged sword.”

Enter the long quote:

As debt levels increase, borrowers’ ability to repay becomes progressively more sensitive to drops in income and sales as well as hikes in the interest rate. For a given shock, higher debt raises the probability of defaulting. Even for a mild shock, highly indebted borrowers may suddenly no longer be regarded as creditworthy. And when lenders stop lending, consumption and investment fall. If the downturn is bad enough, defaults, deficient demand and high unemployment might be the grim result. The higher the level of debt, the bigger the drop for a given size of shock to the economy. And the bigger the drop in aggregate activity, the higher the probability that borrowers will not be able to make payments on their non-state-contingent debt. In other words, higher debt raises real volatility, increases financial fragility and reduces average growth.

Hence, instead of high, stable growth with low, stable inflation, economies experience disruptive financial cycles, alternating between credit-fuelled booms and default-driven busts. When the busts are deep enough, the financial system collapses, bringing down the real economy too.

 So the recommendations?

Back to the study and the economists’ suggestions:

  1. Since aging drives up government expenditure (i.e. non-discretionary spending on Social Security, Medicare, Medicaid, etc), we need to increase our labor base. In other words, we need to streamline immigration. The immigration problem needs to stop being a problem so that people who want to work, pay into the system, and grow the economy are permitted to come here and do that.
  2. The United States—as a people, business environment, and government—needs to  shore up its financial markets so that it remains a low risk investment for emerging economies that have younger populations and higher savings rates.
  3. Free trade. The authors suggest that trade may “reduce the need for more radical changes in the composition of demand that aging otherwise brings.” But then, you  and I both know that free trade, as much as it works, is counterintuitive to the average voter.

What can you do? Save. Save. Save. Because, at the end of it all, savings is the only way out.

As with government debt, we have known for some time that when the private non-financial sector becomes highly indebted, the real economy can suffer.39 But, what should we do about it? Current efforts focus on raising the cost of credit and making funding less readily available to would-be borrowers. Maybe we should go further, reducing both direct government subsidies and the preferential treatment debt receives. In the end, the only way out is to increase saving.

[VIA]

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Is the recession over, or are there more bubbles?

Deficit and debt increases 2001-2008
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I’m reading “Aftershock: Protect Yourself and Profit in the Next Global Financial Meltdown” by Wiedemer, Wiedemer, and Spitzer. They claim to have seen the current recession coming before it happened, the result of the popping of various bubbles in our economy, including in the housing and credit markets. Interestingly, and perhaps most frightening, the authors believe that things will get worse, yet. You see, while national leaders are talking about the recession like it’s the result of a down cycle in the market, just another downturn following the growth of the last few years, the growth they are promising cannot come about without either a new bubble–which must eventually pop–or dramatic increases in productivity. It’s a scary proposition they are prophesying, and while they believe there are ways to survive and even make money in it, the sheer size of the next bubble is terrifying.

As bad as the financial judgment of the private sector bankers and investment bankers is, even worse is the incredible irresponsibility and bad judgment of the public sector–the U.S. government. They have been involved in the biggest bad loan of them all: the monstrous government debt bubble. We can’t possibly pay it off. Our tax base in a good year is only $2.5 trillion. In a bad year, it’s less. The total government debt bubble will soon be over $11 trillion and rising rapidly to $15 trillion. Even if we directed 100 percent of our taxes to paying it off, it would take at least six years, assuming interest rates stay at their current incredibly low level. What if interest rates rose to 10 or 15 percent? We would have a hard time just paying the interest!

From “Aftershock: Protect Yourself and Profit in the Next Global Financial Meltdown,” p. 57.

I find it noteworthy that the authors, while damning political leaders for their irresponsibility in debt creation, do not pull punches for either of the two major parties. Both are at fault. As a good friend of mine likes to observe, both conservatives and liberals have done a good job of spending in recent years–they just spend for different things.

Maybe Economics 101 should be required for freshman Congressmen and Senators in addition to the other orientations for a newly elected politician takes office in the Capitol.  The basics of supply and demand, to say nothing of budgeting and spending, could be considered as important as ideological purity, if not more so.

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