Saturday, 18 April 2015

Does Adair Turner understand debt?

I’m a fan of Adair Turner (former head of the UK’s Financial Services Authority). But he rather goes off the rails in this article, where he (and co-author Susan Lund) worry about rising levels of debt.

As Turner and Lund point out, just under half the increase in debt worldwide in the last five years or so is attributable to increased NATIONAL debts. The first flaw in that argument is that (as pointed out by Martin Wolf in the Financial Times recently) national debt at low rates of interest is essentially the same thing as money (base money to be exact).

As Wolf put it, “Central-bank money can also be thought of as non-interest-bearing, irredeemable government debt. But 10-year Japanese Government Bonds yield less than 0.5 per cent. So the difference between the two forms of government “debt” is tiny…”. Indeed interest rates on government debt is currently at an all time low (Greece and one or two other countries apart).

Another relevant factor when it comes to the similarity between government debt and money is the TERM of the debt: i.e. the time till maturity. That is, government debt is simply a promise by government to pay the debt holder $X in Y days or Z months time. And if there’s say just one week till maturity, then what’s the difference between $X on the one hand, and on the other, a promise by government to pay you $X in a week’s time? Not much difference!

Indeed, short term government debt is used in lieu of cash in the world’s financial centres.

So when T&L say “Much of this debt accumulation was driven by efforts to support economic growth in the face of deflationary headwinds after the 2008 crisis”, that can be more accurately re-phrased as “It has proved necessary to supply the private sector with a larger money supply in order to keep the private sector spending at a rate that brings full employment”.

And frankly I don’t see much wrong with doing that. If people want to carry around more dollar bills in their wallets (or keep wads of dollar bills under their mattresses), what’s the problem? Let them have the dollar bills they want!

T&L then say “But excessive reliance on debt creates the risk of financial crises, which undermine growth.” Really? Japan has had HUGE levels of government debt for a long time and far as I know, no “financial crises” has resulted from that.

I’m not suggesting that supplying the private sector with a larger than normal stock of money (in the form of government debt or base money) is TOTALLY without risks: it’s always possible the private sector goes wild and tries to spend it all at once which would cause rampant inflation, unless government managed to counter that with some sort of deflationary measures. But it’s better aim for full employment and accept that risk, than have excess unemployment isn't it?

Private debt.

As distinct from government debt, there is PRIVATE debt, and that, as T&L rightly point out has risen substantially. On the other hand, and to repeat, interest rates are at record lows. In fact they’ve been declining steadily for thirty years. Thus debtors can now take on more debt than they used to. So to that extent, there is nothing to worry about.

P.S. (6.30, same day): I should perhaps have answered the question as to what to do if and when interest rates rise on national debts. Answer: don't roll them over. I.e. just print money and pay back creditors. And if that's too inflationary, then raise taxes, i.e. grab that money back from the private sector. Easy.

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