Thursday, 5 January 2017

The latest on Steve Keen’s bizarre debt jubilee idea.

I last commented on this idea around two months ago here.

But just recently another article has appeared on this subject, entitled “Steve Keen: rebel economist with a cause” published by ‘Financial Review’.

This latest article contains a LITTLE extra information on the all important DETAILS on how this jubilee will work. The information is not nearly enough, but I’ll comment on it anyway.

To recap, Keen’s basic idea is that government prints loads of money and gives it to debtors on condition they use it to pay down their debts. But Keen recognises that that involves a big windfall for debtors and nothing for creditors. So he proposes putting that right by printing even more money and giving that to creditors.

There is of course a glaring flaw in all this, namely that (to put it figuratively) simply printing tons of $100 bills and giving them to everyone is inflationary (assuming the economy is already at capacity). I’ll come back to that point later.

But as already intimated, the Financial Review article does at least contain a few more details on how this debt jubilee might work. To quote:

“Keen believes there needs to be a reset of private debt levels via a "people's quantitative easing" – effectively, a government bailout of households – to something more in the order of 50-100 per cent of GDP, from around 120 per cent now.”

So now it seems that Keen is contemplating a more modest jubilee. For example, on the basis of the latter percentages,  debt as a percentage of GDP might decline from an existing 120% to 100%. That’s far more modest than wiping out all mortgages, as originally proposed. However, that doesn’t actually stop the whole idea being nonsense, and for the following reasons.

Suppose half the country are debtors (mortgagors) and half are creditors. Also assume the aim is to cut the debt of the average debtor by $X. Also assume the economy is already at capacity.

So….government prints $X per debtor and dishes $X out to each debtor, who in turn passes the money on to a creditor. Plus government prints yet more money and gives $X to each creditor.

The end result is that both debtors’ and creditors’s net assets rise by $X, so they’ll go on a spending spree! Enter hyperinflation, stage left. What to do?

Well government can of course nullify the latter “inflationary effect stemming from increased household net assets” by increasing taxes on every household to the tune of $X.

But wait a moment…..that puts us back where we started! The whole exercise is a farce!

Better bank regulation.

In the Financial Review article, Keen also advocates tighter bank regulation, e.g. in the form of limiting loans to some multiple of the rental value of a property. That would be an ALTERNATIVE to a jubilee, presumably.

Well my first problem with that is that bank lending in Keen’s native Australia (the country he is primarily concerned with) is already fairly tightly regulated compared to elsewhere (though admittedly I’m not the world’s expert on that).

Second, there is a much simpler solution, which is to abolish fractional reserve banking and replace it with full reserve. Under the latter, anyone making a silly loan bears the full cost of any disaster that ensues, rather than taxpayers bearing the cost. I.e. under full reserve, there is no need to regulate lenders at all (which regulation is arguably pretty ineffective anyway). That is, lenders can do what they want, just like people can by whichever shares they want on the stock market. If those shares turn out to be worthless, there is no taxpayer funded rescue, and quite right. Same should apply to people who make silly loans.

The latter is a very simplified descripton of how full reserve would work. But I’ve set out more detailed descriptions elsewhere.

Of course that still leaves a problem to which Keen rightly alludes, namely that given a collapse in house prices and lending, there is a big deflationary effect. But the latter problem is easily dealt with via standard stimulatory measures (e.g. interest rate cuts, government budget deficits, etc).

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