Opinion

Edward Hadas

What is the morality of debt?

By Edward Hadas
October 26, 2011

Debt is a moral matter. While most economic activity is concerned with the “is” of how things are (investment, consumption and so forth), debts are always entwined with an “ought” – to repay. In discussing controversial debts–for example government borrowing in the euro zone and the U.S.–the moral question should be addressed directly: should these debts be paid off in full, or is some forgiveness justified?

Aristotle can help frame the argument. The philosopher condemned all lending at interest because money cannot create wealth by itself; a loan is just a way for the lender to take advantage of the borrower. Some proponents of Islamic finance make a similar argument, but it is not quite right. Capitalism has shown that loans can indeed produce wealth. If the lent funds are invested well, enabling the borrower to improve his lot and the world’s, then interest payments are the lender’s just reward for providing the fruitful funds.

But Aristotle’s moral logic remains relevant; his condemnation is appropriate for loans which do not share wealth justly between borrower and lender. Unfair loans should not be made, and where they have been, full repayment only compounds the original injustice.

Libertarians, believers in the right of individual to make their own decisions, have another contribution to the moral discussion. They point out that loans are freely agreed contracts which should be honoured. Both sides should understand the possible consequences of their free choices. Borrowers should repay, even if that requires making sacrifices, and creditors who make bad lending decisions should suffer losses.

In the euro zone, some libertarians (and most Germans) consider the borrowers’ obligations to be paramount. The governments of Greece and the other over-extended nations can and should repay all their agreed debts. The citizens just have to work harder and pay more taxes.

Other libertarians take the opposite moral line. Losses are the just punishment for the foolish creditors. And the Aristotelian logic may justify forgiveness. The lent money has mostly been spent unproductively, so the borrowers now have few gains to share with the lenders. The original loans turned out to be unjustly generous to the debtors, but the terms have become unjustly harsh.

Which side has the stronger moral logic? Forgiveness looks right for Greece, where the debts are particularly high and the government and economy are particularly inept. For the rest, it is a closer call.

Turn to the U.S. government, which is building up its own substantial debt pile. The American moral debate on the practice is as old as George Washington, who warned that such debts “ungenerously throw upon posterity the burden which we ourselves ought to bear.” Today, the National Research Council writes of “an unfair and crushing burden on future generations.”

Foreign debts are particularly crushing. Citizens get to spend now on consumption and investment but are obliged to repay foreigners later, with interest. This deferment has produced $4.5 trillion of foreign debt in the U.S., 30 percent of one year’s GDP. That is far less than Greece’s full year of GDP, but enough to worry about.

If the U.S. authorities were committed to full repayment of thee foreign debts, they would strive to keep the dollar’s value constant and to avoid inflation. That way, the foreigners would receive not just the contracted dollars but the full agreed economic value. While American authorities may care in theory, they are not concerned enough to refrain from loose monetary policy, which pushes the dollar down.

In this case, pro-repayment libertarians have right on their side. The largest and one of the richest economies in the world – and the issuer of the global reserve currency – is honor-bound to make good on its debts. While the creditors should have noticed that the country was becoming less responsible, their neglect does not excuse American indifference.

For purely domestic U.S. government borrowing, Aristotelian scrutiny is more appropriate. Do the ultimate borrowers, the mostly poor beneficiaries of federal programs, gain enough from these loans to justify the higher taxes that will be needed later to repay the mostly rich lenders? There is no obvious answer to that question, but it is well worth asking.

More generally, philosophical arguments ratify what practical experience teaches. Lenders should be wary about lending to governments. The choice to borrow rather than to raise funds through taxes is usually a sign of political weakness. When the time comes to repay, governments may be unable or unwilling to persuade the people that the sanctity of contracts is a principle worth protecting.

Also, the proceeds of loans to such governments are likely to be spent foolishly. Then full repayment will fail the Aristotelian test of justice. The rioters in Athens may know little about the Ancient Greek philosopher’s doctrine on lending, but they could be protesting in his name.

Comments
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These questions are basically the reason why all the rich people who have any sense have been putting their wealth into gold recently, instead of investing it in the real economy. They know that a write-down is ultimately inevitable in real terms!
Both sides are going to have to take a hit and “meet in the middle”. A one-track solution cannot possibly work! The only solution to your conundrum is:
#1. Increase taxes (will automatically increase confidence – and won’t harm the economy as much as it improves it, because U.S. taxes are already very low)
#2. Trim the pork-barrel fat, and return some sanity to standards of government procurement
#3. Judiciously support debt counselling, labour mobility, financial education for citizens, and very limited debt forgiveness under specific circumstances (suggestions anyone?)
#4. Apply moderately loose monetary policy during the transition, but don’t play with fire so much that your creditors might lose confidence. Interest rates must be gradually

Most governments are presently prescribing far too much of #4, talking about #3, and doing nothing about #1 or #2 whatsoever. No wonder most rich people are keeping their wealth in gold.

Point 1 is addressed in more detail here:
http://www.slyman.org/blog/2011/07/reaga nomics-and-prudent-taxation/

Posted by matthewslyman | Report as abusive
 

“The citizens just have to work harder and pay more taxes”. — What is your problem with Working Harder? I think you got it wrong, STATISTS not libertarians are those who are asking for more taxes in the name of “social morality”. The rioters in Athens are protesting for defending socialism, they don’t want to retire at german’s retirement rates, they don’t want to cut bureaucracy even if most part of these jobs are useless (including militar spending), they don’t want to cut state’s size therefore they want more taxes to support it, they want to keep living at europeans taxpayers expenses. But go ahead, let’s forgive Greece’s debts in the name of “Justice”, it’s funny how this word “justice” has only one meaning for a socialist, a meaning for defending irresponsible behaviors.

Posted by migueedu | Report as abusive
 

It’s always comforting to see how something positive can be said about US debt. For instance here:
“This deferment has produced $4.5 trillion of foreign debt in the U.S., 30 percent of one year’s GDP. That is far less than Greece’s full year of GDP, but enough to worry about”

Unfortunately, US gross debt is at 99.3% of GDP. It is FAR WORSE than the EU zone, about 20 % higher.

Posted by FBreughel1 | Report as abusive
 

All governments have constituencies, minorities of some common interest which, from time to time gain control of the steering wheel. The competing or conflicting goals and policy of the various parties cause our ship of state to lurch from side to side with each such change at the wheel, a zig zag course avoiding unseen threats that may or may not exist.

Governments can never sail a straight course because constituencies perceive different “wants” and “needs”. This is why governments appear clueless when it is necessary to prioritize expenditures. There is no consensus, nor is there any understanding that such consensus is not only necessary but essential in “bad times”.

All ships of state are propelled by money expended, but of late it seems that the energy in each dollar is less and less, and increasingly it is the sheer mass of dollars being expended that moves us forward; a mass we increasingly understand cannot be sustained. “We, the people” are passengers who bought tickets. A normally docile bunch, in any perceived emergency we increasingly demand to know what is happening to us and to have some say in it.

As it becomes more and more obvious that America and/or Europe simply cannot “do it all”, only some consensus as to “wants” and “needs” will assure that available economic resources adequately provide for our needs and our future. We must educate our people, but our “educational establishment” is ill equipped to produce the labor and management now needed at reasonable cost. We must repair and expand our infrastructure, because it is the very foundation that must support our future productivity.

We cannot affort to spend more and more for less and less. Unions increase expense and inefficiency because their sole function is to move money from walnut shell to walnut shell and to pit otherwise identical workers against each other for available work. This country is finally intelligent enough to understand that the average non-union American does not want to pay more for their house, their car, or their roads, etc. so that union workers (and their relatives) enjoy a “better way of life” at the average American’s personal expense.

There is finally agreement that the current level of spending in Washington is unsustainable. That means some of our “wants”, if funded at all, will not be fully funded. The screaming and hollering have already begun, and it will get worse. It is not screaming that will dig us out of the hole we have put ourselves in. It is the shovel and the sweat and the tears to come. We’ve done it before, and American will do it again.

Posted by OneOfTheSheep | Report as abusive
 

HOW ABOUT SCIENCE?

“As a very important source of strength and security, cherish public credit. One method of preserving it is, to use it as sparingly as possible; …. .”
-George Washington

In these times of secular relativism, the problem of applying morality to economics, or to anything else, is that one man’s morality is another’s immorality. Unless we return to an operational acceptance of Judeo-Christian principles, an unlikely event this year or next, arguing about morality is akin to arguing about the taste of asparagus. and there’s no accounting for taste.

As Mr. Hadas rightly seems to imply, morality notwithstanding, in modern capitalism, a now-moribund system, incurring debt to promote production is “good” … incurring debt to promote consumption is “bad”. In this current economic context of high debt, one might keep in mind that both borrowing and lending are behaviors. Accordingly, they are described by the scientific laws of behavior.

“Science? Can’t we just stick to opinions?” some might ask. We can although mere opinion is a vehicle that leads nowhere unless based upon scientific principles and demonstrated facts. The point is that combine modern science with modern capitalism, and what do you have? Poof! Scientific capitalism (www.inescapableconsequences.com). Don’t bother telling most politicians, however. Few are interested.

Posted by Moss_GR | Report as abusive
 

We are going to find out in 8 years or less when Medicare in insolvent and 30 million additional seniors are lined up for entitlements that aren’t there! And that’s just the top of the debt list which is a mile long! See Greece for previews of coming attractions! The public sector is real good at spending and asking what their country can do for them and real poor come time to give back!

Posted by DrJJJJ | Report as abusive
 

Note: we owe $2.7 Trillion to Social Security and it’s not even considered part of our National debt-ask them/look it up if ya doubt!

Posted by DrJJJJ | Report as abusive
 

Oh, Mr. Hadas, the many convenient rationalizations for default should never be confused with the singular “morality” of full debt repayment.

The only honorable terms and resolution of debt are “that loans are freely agreed contracts which should be honoured, both sides should understand the possible consequences of their free choices;” and “borrowers should repay, even if that requires making sacrifices”…period. All others are devoid of “morality.”

Posted by jca | Report as abusive
 

@jca, sometimes there are real abuses in the system, that would be immoral to “honour” on a purely perfunctory basis (as the author of the article rightly points out).

What about the cases where the bank writes it into the contract that they can change the terms of the contract (including the interest rate) whenever they find it convenient for themselves, at 30 days notice? Say I freely agree to a contract that is on reasonable terms… Get myself into $10,000 of debt… And then the bank decides to hike my interest-rate to (say) 50% more than it was; even though I’ve never been in default on our agreement? And what if (by this point, being in $10,000 of debt that will take months to pay down even just the principal); other potential suppliers won’t give me a decent interest rate any more because I’m now considered “high risk” just for having this debt which was promised to me in the first place at the lower rate, up to a credit limit of say $15,000?

Banks are doing this all the time. There’s a word for it that’s as old as the Bible… “Usury”. As soon as they think your options are limited, they start skimming the cream. It’s a seriously abusive practice, and for some reason it’s legal.

This is one other thing that badly needs to be changed in the consumer credit system. Parties to a contract should not have a significant contract “amendment” effectively imposed on them, when they have done nothing wrong.

Posted by matthewslyman | Report as abusive
 

[For the record, that practice of opportunistic interest-rate hiking that I just mentioned has not happened to me, at least not by more than a 10-20% premium on annualised interest-rates. I just read about that practice happening to others, read around the subject and read the small-print in all my bank contracts, which appeared to show that the practice was technically legal.]

Posted by matthewslyman | Report as abusive
 

matthewslyman,

I agree that our society has come “full circle” when specific groups providing banking or cell phone services collude so as to adopt virtually identical abusive practices.

These de facto monopolies purport in their contract “boilerplate” the right to unilaterally deny consumers their right as citizens to present grievances to a jury of their peers for good faith impartial resolution. They do so knowing we need a bank and we need a credit card and we need a cell phone just as they know if all such providers seek such unreasonable advantage that none will offer the “honest deal” that genuine competition would otherwise make available.

It seems about time to pass local, regional and federal laws requiring contract language to be compatible with our constitution(s) and that it be a crime with meaningful penalty each and every time a party does not negotiate or act “in good faith” as determined by a jury.

It’s time to get away from those who would grin and say “all I ask is a genuine advantage”.

Posted by OneOfTheSheep | Report as abusive
 

There is no moral authority for choosing which loans are to be repaid – my concept will be different from yours. If we start trying to somehow “rank” which debts are to be repaid and which are to be forgiven, then there is no basis for any future loans. Lenders will not loan when there is no expectation that their loan will be repaid.

People (and governments) knew what they were signing and should pay up.

Posted by stevedebi | Report as abusive
 

Signing a contract (financial or otherwise) imposes a moral obligation on the parties to the contract. That is the basis on which society and all commercial markets function.

Public debt loads thus serves as a useful barometer of moral trends in society and the world. When people and corporations (both public and private) think the glass is half full, they make every effort to pay in the hope of further credit and productive investment. When they view the glass as half empty, they pull back and begin strategically defaulting.

The role of government in society is to protect and guide the public. People forget, however, that governments are bodies corporate as well, made up of people who are just as susceptible to moral compromise.

The role of government now should be to encourage economic growth and the repayment of obligations through commercial and moral compromise… This means keeping monetary policy “relatively” loose, while creating vehicles by which debt can be positively used to foster growth – through conversion into equity.

The West will only get out of the mess it is in if a realistic valuation of the debt can be taken and creditors and debtors can be encouraged (not forced) to compromise based on a bet on a better future. This is as much true with home mortgage debt programs as it is with sovereign public debts.

Forcing banks to write down to market value at the same time they are forced to recapitalize is tantamount to expropriation unless the obligors on the loans are “encouraged” to give the debt some kind of upside through a positive bet on the obligor’s economic prospects.

It worked in the savings and loan crisis and in the economic crisis in Latin America in the 1980′s and it is the only win win solution now. The morality of debt is inextricably linked to society’s perception of the future prospects of the obligors… Write downs alone will not change that sentiment or produce growth…

Posted by MFSheehan | Report as abusive
 

You cannot strengthen the weak by weakening the strong.
You cannot help small men by tearing down big men.
You cannot help the poor by destroying the rich.
You cannot lift the wage earner by pulling down the wage payer.
You cannot keep out of trouble by spending more than your income.
You cannot further the brotherhood of man by inciting class hatreds.
You cannot establish security on borrowed money.
You cannot build character and courage by taking away a man’s initiative and independence.
You cannot help men permanently by doing for them what they could and should do for themselves!

Posted by DrJJJJ | Report as abusive
 

There is an assumption being made that government debt is equivelent to privately held debt. Unfortunately the difference is that when I sign a loan agreement I am doing so with a promise to repay the loan myself, but when a government signs a loan agreement (or sells a bond or whatever) the people making the agreement know full well that they will not personally be required to repay the loan. So while we are discussing the “morality” of loan agreements, how about we discuss the justification for someone born in the past few years ending up being responsible for high levels of taxation in order to pay for a loan that was made before they were born.

I have argued against numerous government spending programs, and the numerous wars that have emptied the public coffers, and have voted for candidates who promised to reduce spending, right up to the point where it became obvious to me that voting was a complete waste of time, so it’s difficult for me to feel a personal responsibility for the national debt. So arguments that suggest that I am obliged to “pay up” for money that professional politicians have borrowed sound rather hollow to me. Bottom line is that the national debt is something that was done to me, and not by me.

Posted by Obentag | Report as abusive
 

Psalm 37:21
The wicked borrows but does not pay back,
but the righteous is generous and gives

Posted by ep19 | Report as abusive
 

There isn’t much point in trying to argue the morality of debt. Isn’t it more a structural issue? An old economics text I was reading from the 50′s by an economist at Columbia traced the bank note to promissory notes originally issued by Goldsmiths. A dollar is actually a form of debt. It is the need to maintain a belief in the vehicle of currency that has to control the actions of the governments that print currency.

The foreign exchange markets are supposed to be the judge and they seem to be compromised by countries that don’t want to bow to their opinion and or judges that are less than disinterested. The money markets operate on fear and greed too especially now that everyone can play them. And how fair an assessment of currency values can one expect under those conditions? Even debt is a kind of commodity. Even currency valuations can be politicized and gamed.

Aristotle is arguing about charging interest. But he was very likely talking to people who used very little money and tended to work within family or kinship relationships for the most part. Their greatest wealth was in land and people and livestock. Those ancient peoples used marriage ties as the ultimate test of credit. And you don’t charge interest on loans to family. Not unless you’re an SOB.

Those kinds of family bonds are also still alive in the Middle East and India, some countries of Africa etc.

If a country loses its credit worthiness it won’t have much to fall back on. The modern developed world lives with a scrim of hard assets that aren’t all that durable. The buildings, factories, machinery and land can all wear out quickly and rapidly loose value. Paved roads can decay quickly. A devalued currency makes all of them more costly to repair and replace but doesn’t extend their life. The land itself becomes more difficult and expensive to make productive. So the country also becomes materially poorer. And even the value of gold will only retain that value as long as the holders don’t all try to sell it at once. Like any commodity – a flood of gold on the market will cause it to loose value.

Modern construction is even less durable but superior to older methods in some important ways. But so much of what people think of as assets, are very fragile. Modern urban and suburban development is very nearly disposable. And so much is life cycle cost calculated and depreciated.

at DrJJJJ – The history of China since Mao could offer examples that disprove or qualify every one of your beatitudes, with the exception of 5 and 7. They tend to like cash and lots of it. China is the Hettie Green of World Finance. But she started to buy the frills.

The big debt countries remember an adage I can’t. It went something like: “if you are going to borrow from a banker, don’t borrow a little but borrow so much you make the banker your partner”.

Posted by paintcan | Report as abusive
 

Morals? There has been no display of morals, even an attempt at appearances of morals from: Congress, Wall Street Banks , Corporate “Citizens”, Big banks, Investment Banks. To expect the taxpayers, strapped, underemployed, to be morally motivated to repay these con artists who want all the gain while sharing none of the losses is beyond all gall.

Here’s morals-BoA offered my hubby a credit card, he had no income, he declined. BoA persisted in offering this credit, knowing hubby had no income. My credit is trashed-medical debt and divorce, matters not, I was not in consideration, nor could he add me to the account. I was the sole household income, and seriously making way in (finally) breaking even. BoA kept at it, hubby caved and BoA gave him $5000, Why? I was laid off shortly after that. Knowing my own credit could be further damaged, I did set up auto payments-and BoA chose to withdraw their payments, 3-5 days before the due date, and that due date began to fluctuate(my auto pay acct was also with BoA) causing a missed payment, and overdraft fees, as I had no idea the date had changed in a way that preceded my auto deposit of earnings. Nice moral behavior all around, no, I will not be paying anymore money to banks nor government, even if I somehow could-They mismanage on their end and want to convince me I mismanaged a loan I had no say in!?!

Keep paying if you want, or feel morally obligated to. The one’s you owe are relying on you for their excess to continue.

Posted by Aracasil | Report as abusive
 

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