The Corner

Re: Joe Weisenthal Digs a Ditch (and Nicole Joins Him)

I’m with Joe . . . sort of. People have too much debt. Joe’s graphic of household debt as a percentage of income (below) illustrates this point. 

It is unclear how a “permanent monetary expansion,” which Ramesh and Professor Beckworth suggest, would help people to address this debt burden — unless ”permanent monetary expansion” is a delicate way of saying that the Fed should inflate away this debt in a roundabout fashion by trying to inflate the nation’s income and spending. 

But why should the Fed do that? Inflation is a gain for borrowers (sometimes). But it’s a loss for lenders (and for investors in debt).

It’s true that lenders to some debtors, and investors in some bonds, should take losses. But those lenders and investors are the ones who invested in housing-related or consumer debt. Why force losses by government decree onto all creditors, rather than allow those select creditors — who put their money in a really bad place — take their losses through normal market forces?

The answer is that more than half a decade after the housing bubble burst, the country still has no efficient market mechanism through which borrowers and lenders can address their bad borrowing and lending decisions. 

Debt workouts happen all the time between large-scale borrowers and lenders. But homeowners are large-scale borrowers only together, not apart. They have enough power to kill the economy in aggregate through their reduced spending, but not enough power collectively to bring their lenders to the table. 

Politicians view any attempt to breach the subject as a risk that they’ll look like they’re advocating bailouts. But losses aren’t any kind of bailout or moral hazard as long as they stay in the private sector. That is, lenders and borrowers alike would have to take their losses — without lenders getting a new rescue from Uncle Sam. 

People laugh at Europe because their sovereign-debt workout process is so unwieldy, with each country having to run to its own Parliament for approval of seemingly every line change. But at least Europe has admitted the obvious. Greece can’t pay back its debt, at least not without unacceptably low growth for years or decades. 

You don’t hear many people make the argument that Greece must pay back all of its debt, no matter what, as some sort of object lesson in public and personal shame. It’s pretty well accepted that Greece’s lenders took a risk and should be accountable for that risk. 

Nor do you hear, say, Canada crying, “Hey, a bailout of Greece is not fair, because we Canadians were responsible and always pay back all of our sovereign debt!” Such an argument would be absurd. Canada, of course, is just as free as Greece to borrow too much and then to renegotiate that debt down with its creditors. But Canada doesn’t, because default carries real costs. 

You hear these arguments all the time in the American mortgage market. Yet it’s not that different. 

Unless America comes to grips with its private-sector debt burden, I doubt that either looser monetary policy or fiscal stimulus will do the trick (although some infrastructure investment is necessary from an infrastructure standpoint, and wouldn’t hurt jobs-wise, either). 

— Nicole Gelinas is a contributing editor to the Manhattan Institute’s City Journal.


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