A game of economic Pass the Parcel
Three years after the collapse of Lehmann Brothers, the debt crisis hasn’t been resolved, just reformulated.
‘The only way out of a debt crisis is to deal with your debts. That means households – all of us – paying off the credit card and store card bills. It means banks getting their books in order.’ This is what UK prime minister David Cameron was due to say - but didn’t - in his big speech to the Conservative Party conference yesterday. The fact that this line got changed, after some extremely negative reaction to the idea in pre-speech publicity, illustrates the problems with the ongoing credit crunch on both sides of the Atlantic.
‘If the PM really wants us all to repay our debts he shd have a word with Mervyn King. It is central to the Bank’s policies that we do not’, tweeted BBC economics editor Stephanie Flanders. ‘If everyone obeyed the PM & instantly paid off all credit card debt, it would be a disaster: this is basic economics’, declared Flanders’ opposite number at Sky News, Ed Conway. The boss of supermarket giants Sainsbury’s, Justin King, declared that this would not be good news for retailers.
Not that there is likely to be a great British debt payoff any time soon. Total UK personal debt, including mortgages, stands at £1.45 trillion (equivalent to 100 per cent of GDP). Simply servicing such debts, never mind seriously paying them down, is a struggle when the economy is so weak. Cameron was soon backpedalling, so that when he actually delivered his speech, his belief that people should pay down their debts become a claim that people are paying down their debts.
But the fact is that at some point, that debt will have to be substantially reduced, one way or another. It is a symptom of the current malaise in the political class that it is deemed unacceptable even to consider as minor a step as reducing personal debts. In fact, far from reducing liabilities, the Bank of England today announced a further £75 billion of ‘quantitative easing’ - which is what they call ‘printing money’ in the digital age.
The reality is that the economies of the UK, Europe and America have been sustained for years by an ever-rising mountain of debt. Essentially, to keep their economies from grinding to a halt, politicians and central bankers allowed borrowing to take off. As productive economic activity and living standards stagnated, credit - both private and public - filled the gap, a process accelerated by the end of the ‘dotcom’ boom in the early Noughties.
That was sustainable as long as it seemed likely that consumers and mortgage holders could keep making the payments. The trouble is that once the US housing market - built on the sand-like foundations of easy credit and dubious financial instruments - went pear-shaped, both individuals and financial institutions were left with massive liabilities.
The various half-cocked attempts to manage this debt problem have done nothing to resolve it, but have merely changed its form.It’s been like a grand game of Pass the Parcel (or perhaps Pass the Parcelbomb), where one layer is removed in order to reveal yet another one before the liabilities are hastily moved on.
To stave off recession at the start of this century, lending was expanded across the Western world. But borrowing can’t go on forever. While debts were mounting, incomes hadn’t increased; many Americans couldn’t keep up the mortgage payments. The complex financial instruments that were supposed to insure against such problems proved to be a failure and a financial crisis soon followed. In order to save the banking system from collapse, governments around the world bailed out the financial institutions, but left themselves with massive debts instead. This then precipitated a sovereign debt crisis as lenders lost faith in the ability of Greece, Ireland, Portugal, Spain and even Italy to repay these debts.
The latest stage in this game has been to internationalise these national debts. Greece and Ireland now have their major fiscal decisions made for them by a ‘troika’ of the EU, the European Central Bank (ECB) and the International Monetary Fund (IMF). As the debt ‘contagion’ has spread from country to country, ever-larger bailout funds are negotiated to reassure the financial markets that debts will get repaid.
The trouble is that these debts, compounded by recession in the West, are just too big to be dealt with easily. The best that governments can hope for at present is to build up such an enormous wall of believable contingency plans that the markets will be reassured that a major national default could never happen. In order to do this in relation to Italy, the latest proposals call for a war chest of €2 trillion, a staggering sum equivalent to the entire GDP of the Eurozone’s second-biggest power, France (itself the subject of market mutterings about its own ability to pay off debts). How such an enormous facility could ever be created when relatively well-off countries like Germany seem to have reached the limit of their willingness to keep financing Eurozone debts is another matter.
There is no suggestion that these sovereign debts will get paid off any time soon, simply that the markets will be convinced that they can be serviced. We’ll simply be back where we were before the collapse of Lehmann Brothers in 2008, in the sense that we’ll have a debt mountain that the markets are willing to maintain. At some point, more decisive action must be taken to unwind the root cause of the crisis: the lack of economic growth.
This crisis has been all about putting things off. In reality, you can’t pay off credit with more credit forever. What is required is a new basis for productive, profitable activity. To achieve that will require something that no one is really willing to admit: the destruction of huge amounts of capital - be it through writing off debts or closing businesses - and a serious attack on living standards, something the unfortunate Greeks and Irish are experiencing already. This crisis really has its roots in the failure of the ‘real’ economy to generate wealth and can only be properly resolved there.
This utterly unpleasant prospect has so far been avoided. We’ve had something of a fake recession to date. Without wishing to diminish the misery of those who have lost their jobs or are feeling their living standards squeezed (ie, pretty much all of us), low interest rates and relatively painless changes in how we live have enabled most people to keep things ticking over. But if and when government spending cuts really kick in, or if problems really spin out of control in the Eurozone, the consequences could be much more serious.
Rob Lyons is deputy editor of spiked. His new book, Panic on a Plate: How Society Developed an Eating Disorder, is published by Societas. (Buy this book from Amazon (UK).) He will be speaking at Sheffield’s Off the Shelf festival on Thursday 20 October at 7.30pm. Read his blog here.