The Morality Of Debt

Debt

Debt.  The common view is that it’s reasonable to incur some debt during the journey from adolescence to dotage. “Anonymous” called my attention to the subject when she commented this afternoon on a post The Erstwhile Conservative had about it last April. It was occasioned by a man who asked Christian financial guru Dave Ramsey about the morality of accepting unemployment compensation after being laid off. The E.C. thought it an odd question,  but maybe it’s not given the stark contrast in political philosophies between the two parties now. The Tea Party is primarily motivated by the high national debt and advocates strong medicine to bring it down, even apparently to the extent of austerity measures like those being employed in the European Union. The Democrats however see debt as an essential tool for the Keynesian management of the economy as the Obama administration struggles to pull out of the financial nose-dive of late 2008, something recognized as necessary even by the Bush administration when it started TARP.

In his post the E.C. makes the important point that, contrary to Dave Ramsey’s opinion, social programs like unemployment compensation and Social Security are reasonable financial buffers for the vagaries of financial fortune, simply because bad stuff happens both nationally and personally. In effect, such programs represent a national insurance program that is collectively paid for by taxes and as such are, in his opinion, thoroughly moral. I find it a reasonable argument even though my personal philosophy has always been to minimize debt. Still, the question about the morality of debt remains unresolved.

The recent housing bubble resulted from bad debt management by government, the finance industry and by individuals. Powered by government indulgence and corporate greed facilitated through lobbyists, way too many mortgages were contracted to people who couldn’t afford them. Down payments were small or non-existent and the problem was then compounded by the mortgage industry being allowed to bundle the weak mortgages into financial “instruments” that appeared to have the government-backed protection of Fannie Mae and Freddie Mac. Turns out they did have it because they and the big banks got bailed out and, as usual, it was the little people that suffered. Who was to blame? I submit that everybody involved was, including the house-buyers who overextended themselves, sometimes doing it just to try to “flip” their purchase.

Did you ever wonder what the mortgage industry was like before World War II? I looked up the history of the FHA in Wikipedia and discovered that during the Great Depression “most home mortgages were short-term (three to five years), (with) no amortization, (and) balloon instruments at loan-to-value (LTV) ratios below fifty to sixty percent.” The National Housing Act of 1934 changed all that and the FHA enabled the post-war housing boom. As a result, mortgage debt loads previously unheard of were made respectable and home ownership increased from 40% in the 1930s to nearly 70% in 2001.

On the subject of debt morality it is helpful to go back even further in time. Article III, Section 3. of the U.S. Constitution contains this interesting debt-related sentence:

The Congress shall have Power to declare the Punishment of Treason, but no Attainder of Treason shall work Corruption of Blood, or Forfeiture except during the Life of the Person attainted.

Attainder? Corruption of blood?  It has to do with government’s power to affect your finances. I had to look it up and Wikipedia again came to my rescue.

Henry VIII of England, who devised the Statute...

Henry VIII of England (Photo credit: Wikipedia)

In English criminal law, attainder or attinctura is the metaphorical “stain” or “corruption of blood” which arises from being condemned for a serious capital crime (felony or treason). It entails losing not only one’s property and hereditary titles, but typically also the right to pass them on to one’s heirs. Both men and women condemned of capital crimes could be attainted.

The rest of the entry explains that the legal device was used regularly by British kings to keep the nobility in line and it was very effective because it meant losing one’s financial and legal identity, being reduced to a commoner subject to torture, and through the “corruption of blood” clause to the denial of any inheritance by one’s descendants. That’s harsh, and I can see why the founders thought to protect the citizens from such untoward and far-reaching power of government. Maybe they should have specified a minimum percentage of mortgage down payment while they were at it. I guess they could not conceivably have foreseen credit card debt.  And then there’s student loan debt, probably the next government-backed debt-bomb about to explode. That’s something young people have been led into because “everybody does it” and because the government appears to approve of it.  (Sound familiar?)  All I can do is to urge moderation in all things, and especially in debt, a necessary evil.

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About Jim Wheeler

U. S. Naval Academy, BS, Engineering, 1959; Naval line officer and submariner, 1959 -1981, Commander, USN; The George Washington U., MSA, Management Eng.; Aerospace Engineer, 1981-1999; Resident Gadfly, 1999 - present. Political affiliation: Independent, tending progressive as the GOP recedes from its Eisenhower roots.
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42 Responses to The Morality Of Debt

  1. I remember when I bought my first house in 1989. (I like coming here, I’m the young punk instead of the resident old fart! 😀 ) 20% down, and I had to show where EVERY penny came from. Less than 8 years later, 150%-of-house-value loans had suddenly become acceptable, with little to no money down. I remember an afternoon in 1998 (just after our 9th year of ownership), talking with my wife about a mortgage commercial. She recalled stories from Dallas in the mid-80s, when entire floors of skyscrapers (formerly belonging to oil companies) were being rented out as apartments for the well-to-do, giving lie to the “real estate prices only go up” statements of the mortgage commercials. We both agreed that this giant turkey was going to come home to roost, 10 years max.
    Pretty good prognostication for a couple amateurs! 😀
    Seriously, I blame at least part of our cavalier attitude towards debt on the long-term car loans that started popping up some time back. 3 years, fine. 4 years, okay. 5 years? Uh-uh. Now we’re pushing 6 and 7 year loans. Not to mention leasing. We’ve been shown how to afford WAY more car than we can afford – why not housing? And thus goes the slippery slope….

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  2. Alan Scott says:

    Jim ,

    I reject your thesis that private and government actors are equally to blame . In the private sector you have every kind of business person . Government set the environment for the bubble . They picked the winners and losers . Then when it blew up your Democrats 100 % blamed the greedy capitalists and absolved themselves of all blame .

    Government set the incentives for shady folks to get into the mortgage business . These crowded out the more honest and careful lenders. Government set the incentives for the greed and rewarded the high risk takers . Government pushed for lower lending standards . The crony capitalists merely carried out the policies of their government masters . People like Frank then blocked anyone who tried to end the party early .

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    • Jim Wheeler says:

      Um, I see Alan. Government is to blame for it. Government made people obligate themselves for more than they could afford. OK. Um, let’s see, who was in charge of government from 2000 to 2008 leading up to the housing bubble bursting? I think I remember; do you? And by the way, do you really think the mortgage industry was blameless? Admittedly both parties were corrupt in the process, but that doesn’t change the facts – it was rampant greed and it should have been up to the executive branch to prevent it.

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    • Alan,
      I have up until now been able to resist responding to your comments, mostly because I am happy to leave policing Jim’s blog to Jim. But on this issue I simply can’t resist.
      Your ignorance of what caused the financial crisis, at this stage of the game, must be willful. You simply can’t still believe, based on any evidence other than your pre-conceived dislike for government involvement in the economy, that the government “picked the winners and losers.” Your interjection of that liberal devil, Barney Frank, gives you away.
      Having said that, I will not leave you to take my word for it. I will offer you a brief analysis by respected economist Mark Zandi, who despite having Democratic leanings, nevertheless served as an economic adviser to John McCain in 2008 and who right-wing economist Douglas Holtz-Eakin (McCain’s chief economic guy) called “a good economist.”
      Zandi wrote earlier this year:

      There is plenty of blame to go around for the U.S. housing bubble, but not much of it belongs to Fannie Mae and Freddie Mac. The two giant housing-finance institutions made many mistakes over the decades, some of them real whoppers, but causing house prices to soar and then crater during the past decade weren’t among them.
      The biggest culprits in the housing fiasco came from the private sector, and more specifically from a mortgage industry that was out of control. These included lenders who originated home loans, investment bankers who packaged them into securities, rating agencies that misjudged these securities, and global investors who bought them without much, if any, study.

      Zandi did blame government regulators—who during the Bush years were slumbering from an overdose of laissez faire ideology:

      The market’s watchdogs were lulled to sleep by a misplaced view that self-interested private financial institutions would regulate themselves. This flawed thinking was most pervasive at the nation’s most important financial regulatory agency, the Federal Reserve.

      The bottom line, Alan, is that even if Fannie and Freddie had wanted to be big players in the frenzy that led to the financial disaster, they were hamstrung by past malfeasance and:

      Moreover, Fannie and Freddie couldn’t compete with rapaciously expanding private lenders. Securitization was in full swing, enabling private lenders to offer low rates and increasingly aggressive terms to borrowers. In 2006, almost half the loans made by private lenders required no down payment and no documentation. Fannie and Freddie simply couldn’t play in that league, even though Congress had given them aggressive lending targets to help boost homeownership among lower-income and minority households.

      Finally, although the triggering event that eventually led to the “panic” in global markets may have involved the government’s takeover of Fannie and Freddie, as Zandi noted,

      it is wrong to blame them for creating it; that distinction belongs rightly to the private mortgage market. Understanding this is critical to creating a stable, efficient mortgage finance system for the future. While Fannie and Freddie themselves deserve to pass from the scene, given their numerous past missteps, it is equally clear that the government needs to remain an important player in housing finance, providing consistent regulatory oversight and a backstop in case the private market collapses again.

      Of course, I don’t expect you to believe a word of this, as it does not comport with your philosophical or ideological views. But there it is nonetheless for others to see.
      Duane Graham

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  3. Jeff says:

    Every time someone starts to talk about debt, they always start on step 2. Step 1 is we lose bargaining power for wages, and step 2 is we replace that lost buying power with debt. To see that Step 2 is almost inevitable after you pass step 1, notice that the pool of consumption dollars has decreased due to weakening labor earnings, but the pool of capital dollars has increased due to strengthened capital bargaining leverage (this includes bargaining leverage with respect to labor and capital owners share of the national tax burden and tax base as well). There is only one possible result of downward pressure on return on capital invested combined with upward pressure on capital dollars invested and that is a decreasing return on investment. (Remember that people invest capital dollars to get dollars back, not to get goods back.)

    The increased number of dollars chasing a decreasing supply of capital opportunity also leads to increasing dollars chasing asset opportunities, including real estate and stocks, which the middle class share in. Ironically this can hide the wage loss problems to a certain degree as middle class homeowners and middle class stock owners can make up a good share of their lost wages through housing and stock appreciation. If the middle class is large (ie. you live in a first world country), then this could even support continued economic growth even as the finance and asset industries become a larger and larger proportion of the Gross Domestic Product. In 1928, like just recently, financial and asset industries have reached 40% of the total GDP. Unlike today, we were on a gold standard in 1928 and were unable to inflate currency at the rate required to sustain such an economy when financial leverage stops increasing.

    One fundamental aspect of financial expansion that few people mention is, it is fundamentally a supply-side activity. Like other supply side activities, it can have some positive influence on demand, for example, increased loan availability will increase home loan-based consumption or possibly even home appreciation consumption. But with wages representing a historically small percentage of total revenues, you have a red queen problem just trying to buy the same amount of goods this year as last year.

    Many pundits talking about debt understand the problems that occur as debt unwinds, but they fail to mention the fact that we can choose to live in a society where wages provide the bulk of revenues and supply side economics has a relatively easy job to fill in the gap or we can chose to live in a society where the rich win the bargaining leverage tug of war and they begin to use that leverage to get still more leverage until there is no floor beneath wages. Look at any third world country to see how far they can go. Or merely look at what happened in 1929, then again in 1930, then again in 1931, then again in 1932, and would have happened in 1933, 1934, and 1935, the year of the Coup attempt that Smedley Butler exposed, if we hadn’t changed policy.

    The results were telling. The economy grew more than twice as much in Roosevelts 12 years as it did in the last 48 years of Republican presidency *combined*. Anybody who doesn’t believe in the subtle influence of the rich should ask themselves why so few people in this country know that last fact.

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    • Jeff says:

      That should read “One fundamental aspect of monetary expansion that…”. I was referring to our ability to make up for monetary deflation in the consumer portion of the economy by inflating the money supply as a whole through interest rate manipulation. This is what Keynesians call “pushing on a string” when you have an excess of capital dollars and a dearth of consumer dollars as seen by interest rates going to near zero.

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    • Jeff says:

      Sorry about the edits. The red queen problem might not be clear. I meant you have a red queen problem collectively as a nation trying to buy the same amount of goods as the year before. To a first approximation, you might say corporate revenues equals paid consumption (allowing for consumption of public goods like road and education to fall into a different bucket). Wages are a portion of revenues, so you have a bit of a paradox in that revenues come out of a portion of revenues. Of course it is resolvable, but how you resolve it says a lot about which school of economics you belong to. Options include:

      1) Asset growth
      2) Losses by dying companies paying for profits of profitable companies
      3) Redistribution through taxation
      4) Monetary inflation through the credit markets
      5) Monetary inflation through unfunded public spending
      6) Corporate expansion (industry cycle) In this explanation, the average company is growing, so profits can be positive while cash flow is negative or near zero.

      Of these, 1) is obviously a component, but you have a very shaky economy when it comes to be the largest component by far. If this is your only hope, then there will be a collapse eventually. 2) and 6) can’t be the whole story long term. 4) has less and less leverage to help as more and more capital dollars start to float around. There seems to be a divide among liberal economists on whether 3 is necessary or whether 5 is sufficient. In any case, if and when this moderate depression becomes a severe depression, we will either lose our democratic processes or we will go through enough pain that we rely on 3) and 5) to bring us back to balance and any politician that stands in the public’s way will be voted out of office. At this point, a whole generation will understand that pain and we will have another 40-50 years of doing the right thing until we hit our next 1970s/1980s moment.

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      • Jim Wheeler says:

        Jeff, no offense but I have no idea what you’re talking about. Maybe someone else does.

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      • Jeff says:

        I appreciate the honest response!

        I guess for every issue there are several levels you can look at to understand it. After someone falls, the question gets asked why? Answers include “Gravity”, “He was careless”, and “Someone just mopped the floor”.

        Similarly, when you look at the big increase in debt, both public and private, that has been occurring since 1980, I think rather than asking the question, “Are the people spending greedy or immoral?”, I like asking the questions, “What changed?” and “How does this fit in with supply and demand?”. If people are greedy after 1980 and debt to GDP is soaring, but people were also greedy before 1970, while debt to GDP plummeted over a period of 20 years from a high of 120% of GDP in 1945, then Greed is not the most interesting answer to what was going on.

        If you look at the period from 1945 to 1970, you saw a massive battle between Corporate America on one side and the Unions on the other side. There was also still plenty of legislation in place from the New Deal that limited corporate power. From 1980 to the present, any 3 board members could effectively collectively bargain at the top of a company, but there has been no corresponding voice from the bottom part of the company that would partially level salaries. As a result, the bottom 90% has been taking home less and less pay as a percent of the total for the last 40 years, while.the top 1% have been taking home a greater and greater share.

        My discussion above presupposed that there has been a trend from the top 1% taking home a relatively smaller portion of the national income and instead started to take home a larger share of dollars available.

        I would mention that it is important to distinguish here between taking home a larger share of goods versus taking home a larger share of dollars. How you split up the goods that we manufacture has no significant impact on how much is produced, but how you split up the dollars used to buy those goods can have a huge impact on how much is produced. For this reason I like to separate questions of what’s fair from “what are the laws of physics here?” types of questions.

        So, above. Presupposing that the rich have been growing richer at the expense of us in a way that didn’t happen before 1970, what are the interactions between supply and demand and the money supply while this is happening?

        My claim, and the logical issues I discuss above, is that the buying binge and the debt increases are actually a result of the income inequality, and a very predictable result if you understand the supply and demand of the situation. If the ultra rich have more money, they have to lend it out or they have to buy something with it. They are not going to buy 6 million buckets of fried chicken, or 50 million burritos. They will instead either buy an asset, that they think will go up in value, or they will invest in a business venture in hopes of creating something that will have monthly positive cash flow, or they will loan the money to someone else who has the means to pay. The net result is you have fewer dollars chasing burritos even as you have more dollars going into Taco Bells. Simple math says that going forward each taco bell will have to be happy with fewer dollars revenue on average, or it means the Taco Buenos of the world go out of business. When they loan out the money, or their agents or banks do, the people building Taco Bells say, “I don’t think I can make as much money from adding another as I used to. I don’t mind building one, but it has to be for a lower interest rate.” Or the people building Taco Bells aren’t that clever perhaps, but they just don’t have as many dollars available to guarantee loan repayment, so they can’t get a loan unless standards go down.

        Of course, while all this is going on and rich people are finding it harder and harder to find really good investments, Real estate starts to look more and more attractive. After all, in an environment where interest rates have only headed in one direction (Down) for the last 30 years, that has pushed the amount of rent you have to charge to justify the same mortgage dollar level in the same direction, which in turn has steadily put upward pressure on real estate prices. Of course, by this time, People have started to learn that Real estate can only go one direction (Up), so this will cause banks and investors to feel more and more safe with their investments.

        Of course when you factor inflation in, people end up being less aware that their wages have gone down as a percent of the economy than that their real estate profits have gone up. Add in to the mix that there is a generation gap between the wage economy and the asset growth economy and people know that they are hurt by the crash when it comes, but they have forgotten that it was different under a different system. The two income family of the Naughts is probably vaguely aware that there was once a one income family situation where middle class individuals could expect a pension, but by this point it is just a secondhand memory for many.

        Anyway, the point is, you see a lot of people complaining that people are to blame because they got caught up taking loans out, more people complaining that banks are to blame because they wrote the loans, and still more people complaining because the government let it happened or even caused it to happen. The regrettable thing is that almost no-one is mentioning that this sort of asset/loan bubble is the only possible outcome when you start with a country that has a large middle class and then you cut wage income, but put a lot of extra money in the hands of owners looking for places to invest.

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        • Jim Wheeler says:

          Let’s see if I can summarize. In the decades since WW II the economy has seen high growth in technology and productivity, and as a result we have a great deal more money in the system. That money, with the decline in the value of manual labor and diminishing union strength, has gravitated to the rich and resulted in an ever-increasing split between rich and poor. The economy used to be more about durable goods and necessities, like steel and food. Now, especially with the efficiency of big Ag enabling 6% of the population to feed the rest of us, it’s more about packaging, processing, fast food, iPads, big houses and the Defense business. And oil of course.

          If that’s what you’re saying Jeff, I agree. But the nature of debt remains a central conundrum of human nature, which was the point of my post. Debt and government are a dangerous but necessary mix and the only solution I see is to make sure that it’s handled openly.

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        • Jim Wheeler says:

          Let’s see if I can summarize. In the decades since WW II the economy has seen high growth in technology and productivity, and as a result we have a great deal more money in the system. That money, with the decline in the value of manual labor and diminishing union strength, has gravitated to the rich and resulted in an ever-increasing split between rich and poor. The economy used to be more about durable goods and necessities, like steel and food. Now, especially with the efficiency of big Ag enabling 6% of the population to feed the rest of us, it’s more about packaging, processing, fast food, iPads, big houses and the Defense business. And oil of course.

          If that’s what you’re saying Jeff, I agree. But the nature of debt remains a central conundrum of human nature, which was the point of my post. Debt and government are a dangerous but necessary mix and the only solution I see is to make sure that it’s handled openly.

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      • Jeff says:

        I would like to address 2 things in your response:
        1) The relationship between efficiency and economic growth.
        2) The relationship between money and capital.

        Regarding 1) some economists seem to talk about efficiency in the same way you talk about fuel for a steam locomotive. If you want to go faster, add some efficiency and you are done. This over-simplifies locomotives, but I am sure you get the idea. One famous economist personality cult, John Mauldin, even said that all economic growth could be traced back to effiiciency increases because that is the only way you can get growth. Shovel some more efficiency into the economy and it goes faster. I think a better metaphor for the economy (or at least one more accessable to today’s readers) is a car engine.

        As anybody who has ever worked on one knows, you need three things to make a car go: spark, fuel, and air. If you take away anyone of the three, you are not going anywhere. In economic terms, you could say that Spark is a good education and a strong Research and Development infrastructure. Fuel is like efficiency. Ultimately in a narrow sense of the term, the more energy you put into the engine, the more power you have, so in that sense, you could say it is most important, you wouldn’t have a working car without it. But as any mechanic knows, you can’t fix things that go wrong by just throwing more fuel at every problem. Air in the engine also plays a critical role because fundamentally the car is propelled by heat from fire, and the fire requires the combining of the hydrocarbon with oxygen from the air to drive the reaction and release the necessary heat. There is a very interesting second level to this metaphor. In any chemical reaction, the speed at which it occurs depends on the quantity of the reactants and the energy of the system. Any given molecular collision will occur based on ingredient mix and the collision will be a reaction collision based on the energy of the impact. What concerns us now is the first part. If you add a single molecule of fuel to the mix, it’s probability of contributing to the reaction is based on the number of oxygen molecules in the air and vice versa. Whichever is the rarer ingredient is the one that has the most leverage to improve reaction speed if you improve it.

        In the economy, efficiency and wealth of the middle class play a very similar role. In fact, you can use the same math to describe both. An economic transaction is based on the collision of someone producing something with someone who has dollars to spend. If the producer is to lazy to get out of bed that morning, no collision. If the consumer is an Indonesian who is paid $2 for a 12 hour day because of a recent civil war, corrupt government, and a strong belief in free market policies no matter what, then no collision. It takes the collision of someone producing something with sufficient efficiency to have a quantity available with someone who has sufficient negotiating leverage to get paid commensurate with his value creation and therefore has dollars available for the collision to occur.

        However unlike in the case of a chemical reaction, when the production efficiency is not utilized, it gets repurposed and disappears. If the problem is not low quality, but rather low demand, then it can spiral out of control because it causes the next round of suppliers to have less bargaining leverage, which further decreases demand. What causes the dangerous chain reaction is when labor is near or under fixed costs, you are in one of two well known situations when pricing mechanisms cease to work. In the case of labor, decreases in wages, rather than prompting a decrease in supply as equilibrium models predict, actually increase labor supply. Obviously when both forces are on the same side, things can move very quickly. The other well known situation occurs when a country has debts and fixed costs denominated in a foreign budget that are near it’s total budget. This results in decreases in currency value prompting an increase in total local dollars spent on foreign currency, again contrary to supply and demand, which is the cause of hyperinflation.

        But anyway, the real point of this was, it is increasing efficiency and a well-paid middle class that work together to build a strong economy in the same sense that it is fuel and oxygen that work together to make a car go. When the economy gets flooded, then the only solutions that will have leverage to make a big difference will be on the demand side, just like in a country where you have a huge middle class, but very little efficiency, it is the people who can find faster, more efficient ways to do things that have the most leverage. In any democratic capitalist society, businesses provide a strong forcing function that will drive ever increasing efficiency and a government that represents the people will often form a forcing function on the other side that drives up wages and increases bargaining leverage to keep pay balanced with value creation. When one side gets the other hand to the exclusion of the other, you kill growth and risk collapse.

        This would be a good time to point out that pay in this discussion refers to pay as a percent of value created. So if I produce twice as much for the same pay, and we look at just one person, this is a fairness discussion, but if you add up all the working people in the economy and you get that people are getting paid less for more output, it’s an unsustainable model. If pay doesn’t go up to match output, then the only possibility is for output to come down to match pay, and that tends to be a very painful process.

        Some people think that if there is half as much money available for consumption, then each dollar will simply be worth half as much, but life will just go on as normal. The problem with this logic is, no-one has ever provided a workable mechanism for exactly how this will occur, so the claim belongs to the same class of statements as the people who said planes would never fly because metal is heavier than air. We should make our decisions on airplane design based on what the aeronautic engineers believe, not based on the flat assertions of people who claim that if they can’t understand something, you can’t either. (See for example the famous “I don’t understand how the banks did things that were not in their best long term interest” argument of Alan Greenspan, for example.) In the case of deflation that compensates for decrease in earnings, we have to remember the cause to see things clearly. The pay gap we are trying to overcome is fundamentally a problem measured not in dollars, but rather in the ratio of pay to sales receipts. If you add up across society, you can pretend that people are paid in actual produced goods and they are able to barter for whatever they want on some universal Craig’s List. If we look at the case of a farmer who doubles production and assume that everybody else’s case is similar, then in the case where workers have no bargaining leverage (which they won’t if the slump is universal), the farmer will have great flexibility in reducing headcount and grain disbursements when his silos fill up due to unmet demand. He will not have any leverage to increase demand, though, at least not in a way that could be added up across society. He could grow some exotic variety, but the only people with anything to trade for a better tasting product are all the other people with full silos and the same problem, so that is far too small to support a market. His only options are to make do with smaller margins or to cut wages and produce less to keep the same margin. Of course if he chooses the former, he becomes less and less relevant in the economy until the average person making these decisions is one who would use the labor glut to actually increase margins. Wash, Rinse, repeat.

        This brings me to the second point of the relationship between capital dollars and capital assets. I hope I have convinced that the purpose of a dollar invested in a capital asset is not a dollar that someone invests in order to help society, but rather a dollar invested so he can eventually get 2 dollars back, and further, if you have no customers left with leverage levels where it is possible to consume more and there are no strong foreign markets you can export to to get yourself out of trouble, then you are not in a position that the entire world can innovate its way out of. We have talked about inflation, but I think it is more clear to call it price inflation. This is what happens to the price of milk you buy at the store, the rent you pay for an apartment, and so on. Another type of inflation is monetary inflation. Some writers say silly things like “All monetary inflation eventually becomes price inflation. If they said “all milk eventually becomes cheese”, they would be laughed off the block, but for some reason the economic version seems to be more credible. To make the discussion less confusion, I think it is helpful to introduce two further terms that also represent things monetary inflation can turn into. I refer to increases in physical, real world output as “production inflation” and increases in the price of things rich people buy as “asset inflation”. If you were to make the statement that all monetary inflation eventually becomes either asset inflation, production inflation, or price inflation, then you are saying something that is far closer to what happens in the real world.

        As we covered ad nausea above, the only thing that produces production inflation (the good kind of inflation) is when you have some slack in your country’s ability to make things and some slack in your country’s ability to buy things once made and some sort of spark hits it (I am avoiding saying public or private spark, but I hope that it is believable that a moderate amount of publicly funded spark is likely to increase the total amount of spark in the system). Other monetary inflation that doesn’t eventually just get deflated away is likely to go into one of the other two pools; if it is all going into asset inflation and prices are actually shrinking, then ironically you get people who believe there is only one type of inflation complaining the loudest about inflation at the time that deflation risks are climbing to dangerous levels. This means when you have an economic problem you also are likely to have a big political problem on top of it. To put it succinctly, when you have twice as many dollars, it doesn’t magically turn into twice as many factories. It just means that each factory is just worth half as much. And that doesn’t just go for the value of the factory in dollars, but also in terms of prices of things you buy every day. Each taco stand is valued the same as fewer tacos. It can be summed up as saying asset price distortion in the market, rather than merely being a fairness issue, is a major economic issue that blocks overall improvement in society.

        With respect to your comment about the nature of debt, I would add that as I mentioned earlier, this is actually a pressure valve that reduces the impacts of what I said earlier this response. It provides a moderate wealth transfer mechanism from the upper class to the middle class, because houses owned by the middle class increase in value due to bidding up based on loans from the wealthy. (Probably a better way of saying that is it allows the middle class and the upper class to share in the effects of monetary inflation, rather than all monetary inflation going to the wealthy.) This is an important self-regulation mechanism when you use it in moderation, so in that part I think we agree. It is important, though, that when you are looking for a good pair of shoulders on which to put the burden of keeping the economy in balance, to make sure you do not mix up Pee Wee Herman and Atlas.

        In the long run, debt can be a problem, but when you are aware of the relationship between the different types of inflation and you have a good understanding of what drives actual growth, you see it is not the huge problem it is made out to be sometimes.

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  4. Jim,

    Aristotle was right, of course. Moderation in all things is always good advice, but moderation is not abstinence, as you suggest. Moderation, in the case of debt, would entail using it rationally and responsibly, sort of the opposite of how it was used in the “flip” scenario you cited or in securing a mortgage beyond one’s ability to pay. It’s the same way with education debt. Going into debt to the tune of $100,000 seems irrational to me, unless you are going to be a brain surgeon. But a reasonable amount of debt for obtaining an education is a rational decision, as long as there is a demand for your acquired expertise.

    As far as Ramsey, like his fanatical religious and political views, his view on debt is too extreme for my tastes, even though I am personally very conservative when it comes to indebtedness. But I also confess I am completely turned off by his reliance on supposed “biblical principles.”

    Duane

    Like

  5. PiedType says:

    The “morality” of accepting unemployment compensation? It’s not a moral issue, it’s an economic issue. Anyone who could pose that question has obviously never been unexpectedly fired/terminated/laid off. Either that or they were wealthy enough to survive without any help.

    Like

  6. ansonburlingame says:

    Most people and organizations believe some debt is “good”. I don’t know of any Fortune 500 company that is “debt free” nor are hardly any homeowners, at least in their early to middle years.

    But would not anyone agree, even progressives that too much debt is “bad” for an indiviudal, a business and a government as well. In other wors there is a “limit” to debt beyond which “good” debt becomes “bad” debt and the “goodness” in optimized at or below that limit in any give economic “system”.

    If I only make $30,000 a year is debt for a Mercedes Benz “good or bad” debt, leaving all other factors aside. Normal people can answer that question as can normal businesses.

    But try to get an answer as to “good or bad” debt limits in a democracy where many can demand MORE than they have to pay for. When that happens wants and resources get out of whack for sure. Wants (which include needs) keep going up and up and resources cannot keep up.

    Given our current debt of almost $16 Trillion does anyone believe we can “grow our way out of debt”, anytime?

    Solution is to mitigate the wants (includes at least perceived needs) OR increase the recources.

    Well our federal government has not achieved anything like that balance and look at the result, particularly over the last now 12 years of federal governance. Debt has skyrocketed and for sure I don’t hear many saying that about $16 Trillion in total debt is “good” debt. Most Americans believe we went far beyond the limit of debt some years ago. Forget WHY we did so. We are beyond any reasonable limit in our national debt and something must be done about it, sometime.

    HC reform is a classic case today. Progressives with a majority in government increased our wants for HC for all sorts of reasons, some of them “good” reasons. BUT progressives have done little to increase the resources to meet those new wants or even pay for the old wants (Medicare as we know it).

    Solution, economically, is to bring wants and resources into balance. One side tries to change one and the other side, politically tries to change the other. NO ONE is trying realistically to change BOTH of them at the same time. Stalemate anyone?

    Now go try to “moralize” over all of that!
    Anson

    Like

    • Jeff says:

      We can absolutely grow our way out of debt. We did exactly that starting in 1945 starting with the WWII war debt. But we are probably in agreement that we need to fix the underlying problem first.

      Another way of looking at it is, we have a massive debate going on whether economic belt tightening or belt loosening is a better fix. The question comes up as a legitimate question once you start to ask the question, “Tighten whose belt?”

      The conservatives of the world see this as a problem that we have too few resources and we have to reduce our consumption of these resources, and the liberals of the world believe that while there is a limit to the resources we can use, that limit is not causing the current problems. Rather political and monetary forces are causing us to consume fewer of those resources than we otherwise could.

      I won’t add to what I wrote elsewhere except to say that IMO, the question of whether the conservative philosophy or the liberal philosophy is more useful at this exact moment can be answered by looking at whether inflation is high and hyperinflation is the bigger concern, or whether inflation is low and hyperdeflation is the bigger concern.

      If there are too few goods and too many dollars chasing those goods, then the extra dollars will push consumer prices up. If there are too many goods and not enough dollars chasing those goods, then slack demand will hold prices flat and instead push wages and/or employment levels down.

      Like

  7. Alan Scott says:

    Jim ,

    ” Um, let’s see, who was in charge of government from 2000 to 2008 leading up to the housing bubble bursting? ”

    That is a very misleading statement . George Bush was not the one who revved up Fannie and Freddie . George Bush did not push for lower lending standards . George Bush did not protect the leaders of Fannie and Freddie from OFHEO which was the over sight agency . Democrat Congressmen crucified the head of OFHEO when he tried to stop the GSEs from destruction .

    It was Barney Frank who said, ” I want to roll the dice a little bit more in this situation towards subsidized housing. . . .” http://online.wsj.com/article/SB122290574391296381.html

    Bush was in charge but , your guys ( and girls ) had plenty of power to cause the bubble . Prove me wrong .

    Like

    • Jeff says:

      I would generally agree that both sides participated in inflating the bubbles. Something has to drive increasing consumption or any increases in production can only occur by destroying other production. IMO, there are healthy ways to drive this and unhealthy ways to do this. I think we agree that the best way to do this is for people to get paid enough for the value they create to be able to support other people’s value creation in the fashion of Say’s law. I think that where we disagree is, I think that you believe the correct way to do that is for people to create more value in order to get paid more and I believe that the best approach is to ensure that people are better compensated for the value they already create.

      If you are curious about why my view would be different, I would sum it up as follows: If you assume that goods rotting in warehouses have no value (not true, but a decent first approximation, IMO), then value created is equal to value consumed overall in society.

      Like

      • Jim Wheeler says:

        Allow me if your will Jeff to argue for a different view of economics than one in which production is fixed. Last year I saw an impressive TED talk by a man named Hans Rosling. Please view the clip and see if you don’t agree that his view makes sense.

        Like

        • Jeff says:

          I watched that talk. He is a good showman, but he doesn’t really present anything that you don’t already know. I like his observation that when you free up time from menial labor, you can read or improve your skill set, but I also dislike the way the presentation makes it seem like people progress just because that is the natural thing to do.

          A more interesting talk comes from Nick Hanauer one of the early investors in Amazon.com:

          I never meant to imply that production was fixed. If anything, I would suggest that there are mathematical rules that govern how fast production can grow, just like there are mathematical rules that govern how much drive a car engine can produce out of a given amount of fuel.

          The simple version from an economic perspective is that if you give everybody all the money they need, production will be very low because you have no motivation. If one person has all the money and everybody else is broke, then production will be very low because return on investment for investing in production is zero. When you have a strong middle class with bargaining power, you reach a happy medium where you have enough poverty that people still work hard to get out of it, but enough wealth that people have dollars to provide rate of return on investments.

          When you say something like “All consumption comes out of wages”, then obviously it is not true, but when you understand why specifically it is not true, and what makes up the difference, then you are doing some useful economics.

          Like

          • Jim Wheeler says:

            Thanks for the Hanauer clip, Jeff. It was indeed a good one and quite pertinent – I urge all visitors to check it out. As I watched it I recalled the headline in this morning’s paper: “Mitt Romney Has A Plan For (12 million) Jobs”. What secret theory, I wonder, will he use to work this magic?

            Like

          • Jeff says:

            Thanks for watching! I wonder that as well sometimes… 🙂

            Like

  8. I can’t add anything enlightening to this discussion, except to say that Jim’s essay was educational to me and interesting. I must have been tuned out, reading Sherlock Holmes or
    The Bobbsey Twins, the day they taught about attainder of treason in my SC school.
    Still learning,
    Helen

    Like

    • Jim Wheeler says:

      Helen, I strongly suspect that attainder was among many other controversial topics that were purged from our dry history books, or at least neglected. For example, when I was doing genealogy research on my wife’s family I came across one of her ancestors who was thrown into debt by his revolutionary war neighbors. He was a minister, a conscientious objector to war, and a British loyalist. As a result, after the war he was stripped of all his property and died a pauper, indicating that a form of attainder was practiced here in the colonies. Who knew?

      Like

  9. ansonburlingame says:

    It was not just during the Revolutionary War where America tried to deal with Tories. Look what we did to Japanese Americans during WWII. As well, today, with a progressive President we have a hit list with American names on it, albeit Americans living overseas and threatening American security. A few of those overseas Americans faced the explosive end of drone attacks and are no more. So the fact of “attainder” seems to be alive and well in America today, at least to a degree.

    So the question becomes is ANY use of “attainder” automatically bad or are there valid reasons related at least to National Security where it is the “next right thing to do”? I suppose we should ask President Obama that question, today.

    anson

    Like

  10. Alan Scott says:

    ” Of course, I don’t expect you to believe a word of this, as it does not comport with your philosophical or ideological views. ”

    Of course your views are not ideological, are they ? I dare you to google the salaries of James Johnson, Franlin Raines, Daniel Mudd, and Leland Brendsel .

    The latest figure I have for the taxpayer bailout of Fannie and Freddie is $ 188 Billion . That is a little bit of money for such minor players in the whole mess . And let us get back to ” laissez faire ideology: “. That is exactly ‘ your ‘ Democratic Congress critters wanted when it came to stopping OFHEO and the Bush Administration from Regulating the GSEs and forcing them to raise their capital requirements .

    Like

  11. Alan Scott says:

    Jim,

    ” Debt and government are a dangerous but necessary mix and the only solution I see is to make sure that it’s handled openly. ”

    So are you comfortable with $ 16 Trillion in debt ? We are on a trajectory to become Greece and your side has done nothing to stop it . At what point does the debt number begin to disturb you ?

    Like

    • Jim Wheeler says:

      @ Alan,

      “The day is not far off when the economic problem will take the back seat where it belongs, and the arena of the heart and the head will be occupied or reoccupied, by our real problems — the problems of life and of human relations, of creation and behaviour and religion.” — John Maynard Keynes

      Like

  12. Alan Scott says:

    Jim,

    You obviously have no problem with the size of US debt. I do not say Keynes is totally wrong, but there is a limit to his ideology . I much prefer Friedrich von Hayek’s views . I suppose the battle between those two gentlemen and their opposing ideas is really the difference between us, and Obama and Romney .

    Like

    • Jim Wheeler says:

      Don’t try to put words in my mouth, Alan. Of course the debt is a problem – we just differ on how to deal with it. I want to avoid austerity in dealing with it and you seem to want to embrace it.

      Like

  13. Alan Scott says:

    Jim,

    My deep appologies, but your answer was vague . I had to interpret what you meant . I asked you a specific question and you gave me a quote from Keynes that did not address what I asked .

    I understand your reluctance on austerity, but I believe that it is the final solution, because politicians refuse to act preemptively . Western Europe is the easiest to cite . For the moment, since you and I will never agree I will leave out Obama, Romney, and the US economy . The problems in Greece, Italy, and Spain could have easily been dealt with years ago and with much less suffering than now . Politicians refused to do anything about the out of control debt . They put off any pain because if they did not, they were quickly replaced by other politicians who promised the voters no pain .

    Well now the whole rotten system has collapsed and they got austerity . To get back to us, Republicans and Democrats cannot agree on how to deal with our $ Trillion dollar per year deficits . So the taxi meter will continue to run until we blow up just like Greece did . Then you and I will get austerity because the Chinese will tear up our credit card . That is the trouble with this 50-50 split in Washington .

    Like

    • Jim Wheeler says:

      Austerity could be in our future Alan, but it seems we disagree on the timing for it. There are underlying serious problems that must be dealt with, prominently healthcare costs, entitlement reform and too large a military. It is my sense that Obama is better disposed to deal with those in a kenesiean fashion than Romney and it would be my preference to give him a Congress that would work with him to do that. The very worst thing that could happen, IMHO, is four more years of partisan gridlock – we seem to agree on that at least.

      Like

  14. Alan Scott says:

    Jim ,

    I had a real hatred for Bill Clinton, but in hindsight he manged to work with Newt Gingrich and actually reduce the deficit . I do not like how he did it, but he did it . Contrast this with President Obama . Despite what you may think, John Boehner is not nearly as difficult as Gingrich . If Clinton could work with Republicans who in their day were far more committed than today’s Republicans, President Obama could have thrown a bone to Boehner and gotten something .

    And don’t forget for two years Obama could do anything he wanted and did not even try on entitlement reform . If you listen to people who are not partisan hacks, entitlements are where the real problems are . I’ve seen $ 65 Trillion in unfunded liabilities. Democrats constantly pretend that these do not exist .

    Obama keeps punting on the difficult decisions about debt and entitlement reform . Romney might be a one term President for daring to confront the unthinkable, but that is why he must win .

    And as far as your comment about a too big military . I disagree . I find the idea that if only we would sacrifice some of our military size we can avoid making the painful cuts elsewhere, to be very common and wrong .

    Like

    • Jeff says:

      A couple details about the military bills.

      1) Military dollars are more likely to get spent outside of the country, whereas if you hire someone to rebuild our bridges that are becoming dangerous, they will be spent locally.

      2) We are not gaining as much from a large military budget as you would think. The number one military principal headed down from top generals through the ages is “Watch your supply chain.” We are not spending more than the next ten countries combined so that we can be the only country in charge of our military destiny. In fact China is the number one supplier to our services. We pay more than the next 10 countries combined so that one of our historically less friendly allies can be in a make or break position over our military readiness.

      Just moving all of our military work local with no budget changes would help both our economy and our strength. Of course, that would fall under the umbrella of “protectionism”, which we have all learned from grade school is a bad thing.

      Like

  15. Alan Scott says:

    Jeff,

    I am a WWII buff . I have studied in an amateur way the military and political aspects of it . Everyone forgets the lessons of why it became necessary to fight the great war and why we keep having these annoying smaller wars since then .

    Liberals bring up the wars that George W. Bush started and what they cost and use them to brand all Republicans warmongers . As if Republicans sit around and dream about the days they will get back into power and can start another war . By that logic, the three greatest Warmongers in American history were Abraham Lincoln, Woodrow Wilson, and Franklin Delano Roosevelt .

    The military exists to break things and kill people . It does not exist to provide business for companies and jobs for workers. The military is the reason other countries do not destroy us . Liberals bought the Obama claptrap that if only we stop bullying the rest of the world, then apologise for our past sins, all of our enemies and the Europeans will love us . This Disney movie view of the World gets people killed .

    If you study the mistakes of the 1920s and 1930s, you cannot like the Barak Obama naivete .

    Like

    • Jeff says:

      Sorry, I don’t know which mistakes of the 1920s and 1930s you are talking about.

      Regarding the military. First of all, I will say that Democrats have used military unnecessarily a lot too, so when talking about republicans, it is probably safer to focus in on a few of the hawks like Henry Kissinger, Paul Wolfowitz, Dick Cheney, and the Bushes than on Republicans in general.

      I would start by saying that I assume that World War I and World War II were “Just” wars in the sense that Preventing Germany from ruling the world probably prevented more human suffering than fighting the wars caused, so I would expect that we agree more than we disagree on those two.

      I would suggest that there have also been unjust wars, and find the discussion of which wars are just and which ones are unjust (from the perspective of a particular side) more interesting than a discussion of war in general. I would disagree with both the “War is good” and the “war is bad” crowd because both positions are far too simplistic. I hope that most people I talk to would agree with me on that much at least.

      One war that I believe was extremely unjust and that I think every American should be aware of is the war between Indonesia and East Timor. This was a war that occurred shortly after Henry Kissinger and Gerald Ford flew out to Jakarta and spoke to Suharto. The allegation is that we “gave him the go-ahead”, but if you look at the declassified discussions, what we can be sure of is, Henry Kissinger said that the fact that US was selling him arms that were used for offense was a possible problem that would only manifest if it were to come out that the arms were used in Offense instead of in Defense as the law required. In any case, they explained that they would not oppose the invasion and indeed, US kept selling arms to Indonesia up until 1997 or 1998 when Clinton stopped the practice. Then Arms sales resumed in 2005 when the rebel army had largely disbanded in order to provide humanitarian aid in the wake of the Great Tsunami and the Indonesians saw a new opportunity to crush resistance (actually the 2005 reference refers to GAM, which operated in the Aceh province, not the Timor province, so this description is a bit oversimplified).

      The results of the invasion were on the same order of magnitude as Pol Pots consolidation of power in Cambodia (percentage-wise) with between 90k and 215k deaths representing between 13% and 30% of the total East Timor population.

      The US in return got a great place to put Nike sweatshops where the locals were guaranteed to be completely desperate, and got mercenary Indonesian troops to support oil operations and other businesses. As a side note Henry Kissinger was quoted in 1971 as saying “Power is the ultimate aphrodisiac”.

      A bit of suggested viewing concerning various wars and the difference between our press accounts and the underlying situations:

      The Panama Deception

      Confessions (or Apologies) of an economic hitman.

      If you have netflix, Amy Goodman’s Independant Intervention is also highly recommended:
      http://movies.netflix.com/WiMovie/Independent_Intervention/70149656

      I recognize that the idea of Republicans sitting around dreaming of ways to start a war is insulting, and I would not want to insult unnecessarily. For that and other reasons, I think the best thing to do is to talk about these things on a case-by-case and to be very careful to avoid blaming people for the sins of others. In that spirit, I hope that Republicans and Democrats can stand together to ensure that our soldiers receive health care and pensions that they were promised and that they have in some cases endured great trauma to earn. It would be the worst injustice for anti-war rhetoric to become anti-soldier rhetoric and I don’t think anyone wants that today.

      Like

  16. Alan Scott says:

    Jeff ,

    The mistakes of the 1920s and 1930s, according to me are : The assumption that arming for war causes war . That aggressors can be appeased . Now that was natural following the first World War . The Europeans had a whole generation lost in a meat grinder . The US felt like we had been sucked into a European war and lost thousands of men to settle a dispute between Imperial powers who were not much different from one another .

    Britain and France, over the objections of Woodrow Wilson, really financially punished Germany for the war . When the depression hit, Germany was in no position to withstand it . That allowed Hitler to seize power . As Germany rearmed under Hitler, the people of Britain and France elected peaceniks and appeasers who would do absolutely anything to stay out of war .

    These Appeasers like Neville Chamberlin were perfectly happy to sell out small unimportant nations like Czechoslovakia to Hitler . The rise of Fascism and Militarism in Italy, Germany, and Imperial Japan coincided with political and military weakness in Britain and France, and isolationism in America .

    Italy attacked Ethiopia . Haile Selassie went to the League of Nations and asked for help . The West did nothing . Japan started conquering China, the West did nothing .

    Warmongers like Winston Churchill called for confronting the aggressors early, but they were demonized the way Republicans are today .

    The Korean War, the Vietnam War, both Iraq Wars, and the Cold War were all examples of leaders trying not to repeat the mistakes of the 20s and 30s . Today the Iranian situation is the West reverting back to failure . President Obama is trying to talk the Iranians to death the way Chamberlin tried to speak to Hitler .

    Liberals never study history . To quote those great historians ABBA, ” the history book on the shelf, is always repeating itself ” .

    Like

    • Jeff says:

      Except ahmadinejad is no Hitler and he has not been building up for war. If you look at number of tanks and planes and the amount of angry rhetoric, then we should be more worried about Israel then Iran. I will stand on what I wrote above about Indonesia. I agree with you on the need to be diligent, but no-one should get a blank check, not even our own government. If you claim liberals never read history, then I could claim that conservatives never read history from the perspective of the other side.

      Like

  17. Alan Scott says:

    Jeff,

    Thank you for your reply . We each stated our points. I disagree with you on everything but Indonesia. I am not informed enough on that to comment .

    It has nothing to do do with Israel’s number of tanks . It has to do with who threatens their neighbors, period .

    Like

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