Another good article from Richard Duncan
Will Our Economic System Collapse?
The answer is: It might. You will help decide.
Our economic system is Creditism. Creditism evolved out of – but is
very different from – Capitalism. Economic growth under Capitalism was
driven by recurring cycles of investment, profit and savings (i.e.
capital accumulation; hence Capitalism). Creditism creates economic
growth through recurrent cycles of credit creation and consumption.
Creditism has created very rapid economic growth for decades – much more
growth than Capitalism could have created over the same period. The
trouble is that Creditism is now in crisis because the private sector in
the US cannot bear any more debt. A few charts help illustrate these
points.
Total debt (that is household sector debt, government debt, corporate
debt and financial sector debt) first exceeded $1 trillion in the United
States in 1964. Over the next 43 years, it expanded 50 times to $50
trillion. That explosion of credit – and the transformation of our
economic system from Capitalism to Creditism – would not have been
possible if the United States had continued to employ gold as money.
However, in 1968, Congress ended the requirement that the Fed back
dollars with gold. Afterwards, credit and Creditism reshaped our world.
By the way, debt and credit are two sides of the same coin. Every
quarter, the Federal Reserve publishes a document called The Flow of
Funds which provides a comprehensive breakdown of who owes the debt (the
debtors) and who owns the debt (the creditors). Here’s the link:
In our economic system, credit growth drives economic growth. Since
1952, on an inflation- adjusted basis, there have been only nine years
when total credit grew by less than 2%. Each time there was a recession;
and the recession, it did not end until there was another surge of
credit expansion.
So, the question now is: Will credit begin to expand again? We can
determine that by looking at each of the major sectors of the economy to
see which ones, if any, can take on more debt.
Chart 3 shows the breakdown of debt within the non-financial sectors of
the economy. The top line shows the increase in the debt of the
household sector. Household sector debt rose from $4 trillion in 1993 to
$14 trillion in 2008. That expansion of debt financed a surge of
consumption in the US that fuelled a global economic boom. Sadly, in
2008, a significant part of the household sector began to default on its
debt. As a result, that sector was cut off from any additional debt and
forced to spend less; for that reason, the global economic crisis
began.
The household sector is the largest and most important sector of the
economy. Its debt has now begun to contract. Will it expand again? An
individual’s house is generally his or her most important source of
collateral. On average, Hhome prices are now down 34% on average across
the US. With less collateral, households will have access to less
credit. Moreover, the median income in the US is dropping because
globalization is putting strong downward pressure on wages. That means
households cannot afford more debt. For these reasons, household sector
debt is more likely to continue to contract rather than to expand.
The next line on Chart 3 represents the debt of the federal government.
It has nearly doubled since this crisis began. Had government debt not
risen so sharply, total debt would not have simply flattened out (see
Chart 1), it would have contracted significantly and a new great
depression would have begun.
The third line shows the debt of the corporate sector. Corporations are
unlikely to borrow more and expand their production capacity so long as
households are retrenching. The other sectors shown on this chart are
too small to matter, so let’s now look at the fFinancial sectors in
Chart 4.
The top line here shows the debt of the Government Sponsored
Enterprises, a.k.a. Fannie Mae and Freddie Mac. Their debt rose from $1
trillion in 1987 to $8 trillion in 2008. As they increased their debt,
they obtained cash, which they used to buy up mortgages. That created
the US property bubble, which, in turn, drove global economic growth. In
2008, however, Fannie and Freddie effectively went bankrupt and were
put into “conservatorship” by the government. Their debt is more likely
to contract than to expand going forward. So too is the debt of the
private sector issuers of asset backed securities, whose debt is shown
in the next line. They were largely responsible for the subprime
disaster; now, they are largely out of business.
So, what does all of the above tell us? It tells us that the debt of
the private sector is likely to contract during the years ahead. The
Austrian economists such as Ludwig von Mises and Murray Rothbard,
believed that credit creates an artificial economic boom and that when
credit stops expanding, the depression begins. In their world, however,
where gold was money, credit expansion could only continue for a
relatively short period because it was always constrained by the amount
of money (i.e. gold) in the economy; and that constraint was tight since
gold was always in short supply. Consequently, the credit induced booms
and the resulting depressions were relatively short-lived and mild. If
only, that were the case today!
Alas, their world is not the world we live in. In our world, gold is
not money and it has not supplied a constraint on credit creation since
1968. In our world, credit has expanded 50 times in less than 50 years.
That explosion of credit has created a global economic boom without
precedent. The credit boom of the 1920s (the Roaring Twenties) lasted
only 16 years – from the abandonment of the gold standard in Europe at
the beginning of World War I to 1930 when the credit that caused the
boom could not be repaid. Consider the severity of that depression when
credit ceased to expand. If credit begins to contract now, the
depression that our world would collapse into would be, in all
probability, worse than that of the 1930s – that is, if there could be
anything worse. In the 1930s, US GDP contracted by 46% and unemployment
ranged between 15% and 25% for a decade. That depression did not end
until US government spending expanded 900% at the beginning of World War
II, a war that took 60 million lives.
Is it regrettable that we are in this situation? Of course it is. Were
mistakes made? Therey certainly were. We should never have broken the
link between dollars and gold. Had we retained gold as our money, we
would have enjoyed much less material prosperity over the last four
decades, but we would not now be teetering on the edge of a new great
depression. Should we just give up, let credit contract and allow the
new great depression to begin? Absolutely not! To surrender without a
fight to a replay of the 1930s and the 1940s would be the greatest act
of stupidity imaginable.
Well, then, what is the alternative? How can credit continue to expand
if the private sector can bear no additional debt? There is only one
way, only one possible way out of this catastrophe. The government must
borrow and invest. If it invests wisely and aggressively, in
transformative 21st Century technologies such as solar, nanotechnology,
genetic and biotech, the returns on that investment could prevent the
collapse of our economic system. And, in the very worst case, where the
government wastes every single penny borrowed and spent (no cure for
cancer is found, no genetic therapy that reverses aging, no cheap,
clean, limitless energy supply), then at least the collapse of our
civilization would have been postponed by a decade or perhaps even
longer. If we sharply cut government spending now and allow total credit
to contract, then our economic system, -- and the world we know, --
will not survive even 10 more months.
In a democracy, the people must decide what our government will do. To
lack faith in the ability of government to solve problems is to lack
faith in democracy. As a democratic society, we must choose between two
alternative paths. We can invest and prosper or we can retrench and
collapse. What we, the people, decide to do will determine our fate.
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