Debt cancellation would revive the economy | Economic intelligence


It’s time to engage in a frank dialogue on one of the most delicate subjects of the American economy: the cancellation of the debt. The country is awash in unpaid debts which act as an anchor for growth. If creditors insist on full repayment and policymakers continue to support creditors’ demands at taxpayers’ expense, the current liquidity trap will accelerate its downward spiral. Notions such as “inviolability of contract” and “moral obligation” to repay debt are all good in normal economic times. Yet times are far from normal.

There is no doubt that a well-functioning credit system is the lubricant to the wheels of commerce. Farmers have always needed credit to buy seeds and fertilizers, which were repaid at harvest time. Traders have always used credit to finance inventory and discount receivables. These forms of credit have three things in common. They are self-liquidating, relatively short-term and provide a guarantee. These loans are the very essence of banking properly understood.

The conventional view is that debtors have a moral obligation to repay their debts under all circumstances and the law leans heavily in favor of this view. Bankruptcy is a route to debt relief. However, recent changes by legislatures have made it harder for debtors to get relief from student loans, underwater mortgages and unsecured consumer loans. The debtor, it seems, must be wiped out.

Yet, is this the best path to economic growth? America has always been a country of new beginnings and personal reinvention. In the Oklahoma Dust Bowl of the 1920s, Americans parked their cars and headed to California where agricultural jobs were plentiful. During the recession of the late 1980s, thousands of laid off steel and auto workers headed from Michigan to Texas and Tennessee, where new jobs at Dell, IBM and transplant factories Japanese opened. These adjustments took place before computers, credit scores and candidate profiling were widespread.

Today, the tyranny of credit scores and the intransigence of banks stand in the way of a fresh start for millions of Americans. Many cannot sell their homes because their mortgages are higher than the value of the house and the banks will not provide relief. Those who can move cannot even get apartments, let alone buy houses, if their credit rating is impaired. Employers are increasingly using credit scores as a screening tool in the hiring process so that millions of perfectly honest and reliable workers cannot get jobs if they have experienced temporary distress. Our working system has become more rigid and ossified – more like Europe – and will remain so until debt relief and some sort of fresh start on credit scores can be implemented.

Even for moral reasons, it seems difficult to place the entire burden of adjustment on the debtor. For every reckless debtor, there is an overzealous and reckless lender. To suggest that creditors’ greed for profits and bonuses has nothing to do with the spread of unpayable debt in recent years is naïve. Even today, banks will not reduce mortgage principal because they want to retain lucrative mortgage servicing fees. This behavior is no less reprehensible than that of the most calculating debtor.

Interestingly, this economic problem is not new. In fact, it’s old. The biblical book of Leviticus provides that every 50 years any mortgage debt must be forgiven. This event has been called the Jubilee Year. This may seem like a shocking imposition for creditors and a free ride for debtors. Still, consider behavioral feedback loops. In the 10th year after the last Jubilee, lenders could lend freely for a term of 20 years. In the 45th year, it seems likely that long-term credit dried up because lenders were as aware of the coming Jubilee as debtors. It was a self-regulatory system that deleveraged before credit bubbles spiraled out of control and threatened widespread collapse. This is an orderly deleveraging that seems enlightened compared to the disorderly and draconian deleveraging that our economy is experiencing today.

It seems unlikely that creditors will voluntarily do the right thing and provide the necessary debt relief. Yet by insisting on full repayment, creditors will find that they are getting more and more of nothing as the liquidity trap and deleveraging metastasizes into full-fledged repudiation and general default.

So far in this crisis, the government has facilitated the doomed behavior of creditors by supporting banks with taxpayers’ funds and supporting asset values ​​with printed money. This act of levitation will end with even more disastrous consequences than if the issues had been squarely faced from the start.

It is not too late for the government to do the right thing. Mandatory debt cancellation in part – a modern jubilee – for submarine mortgages, student loans and excessive consumer credit balances would be a tonic for the economy. Many banks would quickly fail, which would be a breath of fresh air since they are de facto already insolvent. New banks could be formed easily and some of the failing banks could reappear in the IPO market stripped of their bad assets. The bank could return to its traditional functions while consumers would be compelled to behave more prudently and sensibly. Labor mobility would be restored and wealth inequality would be reduced.

Some problems just aren’t as hard as they look. Our post-modern policy makers and economists should take their cue from the ancient Israelites. It is time for a Jubilee.

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