U.S debt jubilee would not rev up growth

October 4, 2011

By Martin Hutchinson
The author is a Reuters Breakingviews columnist. The opinions expressed are his own.

Good ends do not justify bad means. That philosophical observation applies to proposals for a big American debt jubilee which are now doing the rounds. The idea is to slash U.S. consumer debts –- an admirable aim for an overleveraged nation. Household debt is still 90 percent of GDP, down only modestly from the 2008 peak of 100 percent. But even bank-haters should recognize that this cure would be worse than the disease.

To start, writeoffs would not necessarily increase growth. Every liability is also an asset, so while a dollar that is no longer required for debt repayment might add some cents to consumer spending, it is also a dollar cut out of a bank’s capital or of an investor’s net worth -– subtracting from resources and confidence.

Writeoffs big enough to change consumer behavior would probably be big enough to destabilize banks. The Federal Reserve or the government would need to help, presumably by injecting newly printed money as capital. Such government control is likely to be inefficient, and abundant printing increases the risk of uncontrolled inflation.

Moral hazard should not be ignored. Much of the excess debt was incurred through irresponsible mortgage refinancing, which peaked in 2006 at $322 billion, 2.4 percent of GDP. The reckless use of houses as ATMs was a major factor in de-capitalizing and destabilizing the U.S. economy. Forgiving such debts will teach the wrong lesson: borrow in haste, repent never.

Finally, investors would rightly see a jubilee as an attack on property rights. That would destabilize markets and discourage foreign investors in the United States. Risk premiums on both debt and equity capital would increase.

There are better ways to deleverage. High inflation does the job more naturally, without invidious choices about whose debt got reduced. But inflation also discourages savers, weakening capital formation. The best way to get debts under control is the hard slog of paying some back and writing the rest off. Sound money, including interest rates above inflation, would help by preserving existing capital and promoting savings. After all, capital creation, not its destruction through debt forgiveness, is what makes capitalism work.

Comments

While recent stock market troubles may have prompted economists to call for a “debt jubilee” or a “bondholders haircut”, debtors in the third world have been calling for a jubilee for decades.

And now in America, governments, businesses, individuals are buried under a mountain of debt. A mountain of debt that will never be repaid. Who will borrow when they can’t make the payments on the debt that they have already? The math alone calls for a system reset, a debt jubilee.

Investors are already losing their assets and don’t know what strategy will save what they have worked so hard to accumulate… in a rigged monetary casino that rewards usury, speculation, and currency manipulation while looting main street.

There is a moral principle that debts should be honored. That is, debts between businesses that buy and sell real products, (not bundled ponzi schemes), debts between individuals, between friends and businesses that know each other to be rational and moral, debts based on investments where there is a rational expectation of return.

There is also a moral principle that unjust debts should be cancelled, and usury, fraud, creative accounting eliminated. Debts that are ‘odious’, debts based on fraud, debts to dictators, debts arranged by oligarchs without the consent of the general population (the 99 percent who have been left out of the equation), debts based upon compound interest upon compound interest that should have been written off long ago, the debts need to be cancelled in a general jubilee.

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It may not rev up growth, but it would be great if we can avoid a catastrophic crash, or even stabilize our economy.

Mortgages incurred during 2003 – 2008 should be reduced by the amount of loss market value, because houses were over priced during that period of time.

Student loans should be forgiven when someone declares bankrupcy.

If you don’t own a house, then you should be given a chance to reduce, not completely forgiven, your student loan, and maybe credit card, to a lesser extent.

If you have been responsible all your life, and have very little debt, then you should be given a substantial and meaningful tax deduction from paying our substantial national debt incurred by irresponsible Wall Street.

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