Trillions in Bad Loans May Sap World Economy for a Long Time
nytimes.comWhy not forgive the loans? The negative affect of debt on people's capacity to contribute to the world economy is high, and I think it stands to reason that people would contribute more for the duration of paying off their loan if the loan wasn't hanging over their head.
The banks would scream bloody murder, obviously, but their slack policies got us into this mess in the first place.
The intention is to throw people a rope to save them from drowning, but the rope is ending up as a noose around their neck more than anything else. The government's may have had good intentions in their support for the proliferation of subprime lending, but I think it would've been more effective to just give people money without the expectation that they pay it back directly. It will find its way back into the economy as, so to speak, trickle up economics.
>Why not forgive the loans?
The idea of a "debt jubilee" is definitely something that's been discussed before by economists and philosophers.
One big issue is that there are other people on the other side of those debt cancellations that would get hurt.
For example, it's terrible that young adults have massive college loans to pay back. Some are kicking around the idea to forgive those loans. But there are also creditors as well. Think of grandparents who have a 401k for retirement. Through the interconnectedness of the financial system, a component of their retirement income will depend on payback of those "bad" college loans.
Will those senior citizens happily vote for a debt reset if they know their retirement savings get reduced? Seems doubtful.
The way to sell the idea of debt forgiveness is to convince the creditors that it's impossible for the debtors to pay them back. Therefore, take a financial hit now instead of later so the economy can get moving.
This is a really good point. My gut tells me that if the old people were relying on the massive indebtedness of today's college attendees, then that has been a cruel error on their part, an injustice that should be righted.
Also, the artificiality of the debt--and the idea that a jubilee won't really hurt the creditors--is put into striking relief by the Rolling Jubilee. Right now, people are already buying that bad debt for pennies on the dollar, just to wipe it out. I'd like to see if anyone's modeled what would happen if that behavior were just turned up to 11, who'd be harmed, etc.
>if the old people were relying on the massive indebtedness of today's college attendees, then that has been a cruel error on their part,
Oh no no... I don't want people to picture an old hag sucking the blood of infants.
To clarify, I was using "grandparents" as a single example to humanize what a "creditor" was. We have met the creditors and they are us.[0] When society complains about the unfairness of student loan debt, we tend to think of the creditors as something abstract and invisible.
The total student debt is ~1.3 trillion[1]. If forced to picture who is owed that money, maybe college kids would think of some evil mustache twirling CEO of Goldman Sachs or Chase Bank. Sure, some fraction of a fraction of the interest payment does go to executives like them but the vast majority of the money goes to us.
That 1.3 trillion is diffused throughout the economy. The pensions of police officers, firemen, and teachers. The car insurance premiums we pay is priced a certain way based on investments that point to those college loans. Etc etc.
At the moment, the struggling college grads are "visible" and the creditors seem "invisible" but trust me, if a political movement gathers steam to ask Congress to forgive those loans, all those invisible creditors will come out of the woodwork at Congressional hearings and fight it.
Trying to convince millions of us to zero out the balance sheets for those student loans will be a huge uphill battle.
[0]riff on: https://en.wikipedia.org/wiki/Pogo_(comic_strip)#.22We_have_...
[1]http://www.marketwatch.com/story/every-second-americans-get-...
Wealth is less diffuse than your suggesting. But, it's also more global.
As it stands, money never really sits around doing nothing. It's on some banks balance sheets and so it's loaned out, then repackaged and sold to organizations seeking safe places to park money. This repackaging of debt has been a huge boon to the US economy in the short term. But, it's only a long term gain if people actually default otherwise it's just a long term drain for a short term boon.
The wider problem is there is more 'money' than productive usage for that money which means bad loans, and wealth destruction. Arguably the solution is to have money sit around without being loaned out.
No, this is incorrect.
Firstly, the debt burden is only diffused because those "mustache twirling CEOs' decided it should be.
Pensions used to work just fine before they were financialised by sharks. So did insurance.
No one sane should be trying to increase the returns on a pension fund by gambling on student debt, on real estate loans, or on consumer credit.
That was exactly the approach that caused the implosion of 2008 - or more specifically, it was "mustache twirling CEOs" hiding the fact that the investments they were selling as a sure thing were junk loans with a cheap wood veneer.
Secondly, even if this wasn't true, the social and economic costs of an economy that runs on usury instead of productive investment are so predictably crippling that the hair cut, with associated uncontrolled demolition, will happen anyway.
A debt jubilee would do a lot to restore confidence, because everyone will be able to stop looking nervously at everyone else's obligations and wondering if they're going to be able to meet them. Instead, some realism will be restored to book values.
This would still be cataclysmic, because the financial industry needs to understand that it can no longer run on cocaine and bullshit.
But it won't be the financial equivalent of a self-inflicted nuclear strike, which is a real possibility as things stand today.
>A debt jubilee would do a lot to restore confidence, because everyone will be able to stop looking nervously at everyone else's obligations and wondering if they're going to be able to meet them.
Oh yeah, I'm sure the creditors will be highly confident about future lending after a jubilee, because they went from wondering if debt will be repaid...to knowing it won't.
Where do people come up with this stuff?
You know what, fuck the creditors. Let them feel what it's like to have no money coming in for a while. If they don't want to lend any more they can spend down their capital or go and get jobs. The society we've built around the premise of mortgaging the future is not so fabulous that it can't be improved upon.
>You know what, fuck the creditors. Let them feel what it's like to have no money coming in for a while.
I'll bet most of them already know. Start with nothing, work hard, save money for retirement, lend it to entitled students and have them not only stiff you, but also spit in your face.
That seems fair.
most of the rentier class knows what its like to "start with nothing and work hard"?
We're not talking about "the rentier class", though. We're talking about people who worked in a cubicle for the last 30 years and would like to be able to spend the money they saved.
This is what we need. Creditor haircut, then rates go up because there is real risk.
Let's hold the boomers+ to the fire. And the banks.
I think a lot of the Boomers are going to get their comeuppance. At my age, my parents were on their third house. Most of my cohorts rent, and as I'm in a city where housing is now higher than before the crash, I wouldn't buy a home even if I could afford it. And I don't have school loans.
There are going to be some disappointed Boomers in the next decade, when looking to sell their main asset, upon discovering nobody can or will pay their inflated prices.
You are already wondering if debt will be repaid. It is very likely many of the larger student loans in the US for financial aid packages in the humanities will never fully be paid back and the holders of the debt will go to their grave with it. Other debt can and is being defaulted in bankruptcy - consider that even for people 45-55 the median net worth is only around 90k, and you can easily find yourself in way more debt than that amount.
Additionally, anyone making loans is already considering the risk of a debt jubilee when making loans now. After a debt jubilee of course the risk of recurrence is higher, but the risk assessment for banks would not be magnitudes different in the medium term.
Imagine you're a healthy man of age 45. What can you do today that means you get taken care of when you're old? You can try to convince your children to do it, but that's fairly risky - and it doesn't scale well on a national level. Anything you build today is going to break down and undergo capital depreciation by the time you're unable to take care of yourself. If you help build a road, it needs maintenance.
There's few good options at societal scale. One of them is to get the right to extract valuable resources and sit on them until later - this is what Norway's doing with their North Sea oil. The other is to make things, and trade them for promises to make things later. This is one of the huge fundamental forces acting to make debt for the young generation easier and cheaper - the previous generation needs to do things now to convince them that they need to part with their work later.
It's not an error, it's there by design. The only way to get retirement savings on that massive of a level is to make things for people who can't afford them (yet).
>This is a really good point. My gut tells me that if the old people were relying on the massive indebtedness of today's college attendees, then that has been a cruel error on their part, an injustice that should be righted.
It's a "cruel error" to lend somebody money?
I think the cruel error is to (1) make something (nearly) necessary for a prosperous life, (2) make it ruinously expensive, and (3) offer to loan money to people who have little choice or financial sophistication (4) at terms that are highly favorable to the sophisticated creditor.
Well, okay. Then the problem is the government, not the people actually doing the lending.
>But there are also creditors as well. Think of grandparents who have a 401k for retirement. Through the interconnectedness of the financial system, a component of their retirement income will depend on payback of those "bad" college loans.
Do most 401Ks really invest in student debt?
I don't know about "most", but it is probably safe to say "many." Sallie Mae retains ownership of 25% of all outstanding student loan debt. If the debt was forgiven, I think it is safe to presume their equity stock price would go to 0. Look here for the largest holders of that stock:
https://finance.yahoo.com/q/mh?s=SLM+Major+Holders
Much of the other 75% is I'm sure also distributed into many other common mutual funds that are used in people's 401k plans.
>Do most 401Ks really invest in student debt?
It's trillions of dollars, and every penny of it is held as an asset on someone's balance sheet. Do you think it's confined to "greedy bankers"?
They might; I doubt they do directly. The emphasis is on the "interconnectedness". After five or so hops ( A invests in B ->C->D->E ), you don't much know any more.
One big issue is that there are other people on the other side of those debt cancellations that would get hurt.
A risk they assumed when they decided to put their capital to work. I don't actually have any debt myself so I don't have a dog in this fight, but if you have the money to purchase risky assets in expectations of earning a coupon then your necessities are already covered. Between people who don't have enough to live with dignity and people whose investments don't pan out, most of my sympathy goes to the first group.
I don't think you understand...normal people are both the creditors and the debtors. Banks are just the intermediaries that take a cut from the normal people on both ends for "efficiently allocating assets that would otherwise accrue suboptimal rates of interest."
The real problem is that the banks are allowed to take risks without paying the price for these risks when they do not pan out. We have set a precedent that the large financial institutions are too big and too important to fail, and thus they may operate with quasi-impunity knowing that they might have to cut some junior employees/restructure/spin off some divisions in the event of a downturn, but that the revolving door between the public and private realms will always be open, through which both taxpayer money/credibility and new jobs will always flow to those at the top. Nobody will go to jail for being a self-interest optimizing sociopath because our legal and economic system is set up to favor corporations and those with the money to thoroughly defend themselves rather than society as a whole.
I understand fine. I just don't fully agree with your point of view.
Fair enough.
Perhaps we can agree that there isn't enough transparency on the creditor side. You and I are creditors in that we have 401ks or money in pension funds. Do we know what is happening with that money? Not really.
Is it then fair that we have to take a haircut on our (guaranteed safe) savings if a bank screws up our investments?
No, they didn't assume a risk of "oh, let's just forget the whole debt thing, who cares about that stuff anyway".
Yes they did. Default is a real thing and that's the risk you earn a premium for taking. On equity the price of the asset can change, on debt you either secure it or charge a rate of interest that reflects your assessment of the risk. Hence the shitty rate of interest on savings accounts - your principal is guaranteed up to a fairly large amount so you earn less.
There's a big difference between default (one party not paying because of difficulty or choice not to) and a deliberate mass social decision to say "oh, let's just forget the whole debt thing" across the entire economy.
Lumping the two cases together is an unjustified equivocation.
Bonfire of the boomers+. It's time.
Cynically: the old are already impoverished, and we have more to gain by freeing the youth from future poverty than we do by salvaging twilight years.
Realistically, you're right about debt having two sides... but one side is typically far more in the hole than the other.
Imagine you're a bank calculating the interest rate to offer on a loan. Do you think that rate will be lower or higher if you believe there are circumstances wherein the government would unilaterally allow your borrower to cease payment?
Obviously, if the government could be metaphysically certain of the loans that would never return another penny and only cancel those, there's no net loss to the bank. But there's no net gain to the borrower other than a potential psychological effect.
Risk of government-sanctioned default is the same as any other default risk, and will be priced into interest rates, hurting especially those with marginal credit whom the banks judge most likely to be the "beneficiaries" of some future forgiveness.
This is why in days of yore there was something called collateral. Loan goes bad, you take the collateral, maybe take a loss and move on.
Now banks think they can get rid of that concept too. They want loans to be insured by governments so there will never be defaults and they can simply mint money?
But in the US, having collateral was viewed as a sort of privilege mechanism. Mitt Romney's Dad George, in the very best of intentions, tried to make it to where "underserved" or "redlined" mortgage districts got more service in mortgages to counterbalance things.
The end result of the monster that became blew up in 2008, after people took it far, far, far too far.
The hard problems are hard, mainly because you can't see the effect of an action until it's far too late.
Calomiris/Haber wrote a book explaining this. Recommended.
We can resort to a sort of grumpy, Congregationalist/Calvinist mentality but then stuff goes undone and people are poorer. Value should come from value, not suffering.
>Loan goes bad, you take the collateral
Yeah, and in the most recent cases that was somebody's home, for which nabbing that collateral was controversial.
>Now banks think they can get rid of that concept too.
Banks are pretty good at assessing loan risk. You don't think so? Go try to get a small business or unsecured loan.
>> Risk of government-sanctioned default is the same as any other default risk, and will be priced into interest rates, hurting especially those with marginal credit whom the banks judge most likely to be the "beneficiaries" of some future forgiveness.
This seems to be the opposite with student loans. The government has backed those and will not allow them to be dismissed in bankruptcy and all that, yet those loans have some of the highest interest rates around.
Is that just based on the lack of collateral? I mean a person could die and then it will never be repaid. Homes are required to carry insurance, so the risk of destruction is covered. Is that what it is, or are they just screwing people over? These are just questions, I have no skin in the game ATM and hope my kids can avoid it as well.
Also:
Imagine you're a bank calculating the interest rate to offer on a loan. Do you think that rate will be lower or higher if you believe there are circumstances wherein the government would unilaterally forgive your bad debts if your customer defaults?
It is unquestionably true that a debt jubilee would result in higher interest rates. It is somewhat disingenuous to spin this as a negative for people with marginal credit: you only have bad credit if you are very young, or have outstanding debt-- annulling a thousand bucks of debt has dramatically greater marginal utility than the ability to get a loan of a thousand dollars at 15% APR instead of 25% APR.Imagine you're a bank calculating the interest rate to offer on a loan. Do you think that rate will be lower or higher if you believe there are circumstances wherein the government would unilaterally allow your borrower to cease payment?I also question how long the effect of a jubilee-premium would last. Five years? Ten? Brazil, Argentina and Mexico all defaulted on their sovereign debt in the 80s-- (https://en.wikipedia.org/wiki/Latin_American_debt_crisis ) and they certainly weren't locked out of the bond market forever-- Mexico's 30 year bonds are standing at about 6.8% right now. Gold was illegal to own in the United States from 1933 to 1975, (https://en.wikipedia.org/wiki/Gold_Reserve_Act ) yet investors aren't acting like they're afraid of the government taking their gold again-- it's at $1,155 a troy ounce right now.
>weren't locked out of the bond market forever-- Mexico's 30 year bonds are standing at about 6.8% right now
6.8% represents quite a bit of risk in this environment of historically low rates. How is Argentina doing?
I mean, I agree that people will eventually "forget", but that's always with the assumption that the "last time" was some unique set of circumstances.
It's amazing to me that people still believe that the best way to reap the benefits of capitalism is to seize or extort the capital from the capital owners. Of course, everyone thinks that those capital owners are some mysterious "other", and they'll be unscathed by the wealth grab. I wonder what people would think if they were told by the government that their savings and investments were being reset to zero so some students could get a free education? Probably wouldn't be so impressed...
Not to mention the precedent it sets with the corresponding expectations of future similar actions should they be needed, and the erosion of confidence in your money's ability to maintain inflationary value.
Because people are bloody minded animals.
This is a survey: http://mappingignorance.org/2013/03/20/experiments-in-fairne...
The seminal experiment is Kahneman around 1986. I fail at finding a good treatise on it. But here's this: https://en.wikipedia.org/wiki/Prospect_theory
And as applied directly to econ: http://www.econ.uzh.ch/dam/jcr:ffffffff-9758-127f-0000-00005...
The banks are simply our agents in this. Roughly, other "innovations" have made debt more dangerous over time. My paltry understanding is that one of the uses of inflation is to erode the value of debt.
We don't have meaningful inflation any more. And yes, I relaize how bizarre that sounds. But: http://www.interfluidity.com/v2/3212.html
Something terrible has happened to the tradeoff between the balance sheet and cash flow. A really crummy analogy is position v. velocity on quantum realms; as competitiveness has escalated, we get to where the trade between them is more severe. Also IMO, much as wages have stagnated, the value of capital goods has also.
> The banks would scream bloody murder, obviously, but their slack policies got us into this mess in the first place.
So, your solution to "the banks" slack policies - which were actually caused by government meddling: Affordable Housing Act, guaranteed student loans, etc...
Your solution is more government meddling? Forcing the banks that didn't want to give out loans... to lose money on those loans?
How about stay-out-of-the-way economics?
Socialism - take from the "rich" and give to the "poor" - disincentivizes people from working and being productive. Why work hard, when the trash down the street lives better by being worthless?
I mean... it just blows my mind that people see these issues... issues caused largely by interference... and so many think that the answer is more interference.
The government plays a regulatory, distributive role in society, allowing profits to accrue to capitalists but setting taxes and running social programs at the proper level to ensure that society as a whole functions smoothly, and that there are opportunities for everyone to improve their situation.
Most of the economic world is in agreement that financial deregulation was a huge contributing factor in the crash of 2007-08. The repeal of Glass-Steagall allowed banks to take on too much risk with too little supervision.
This would have been fine if the banks had been the only ones punished when their bets went bad - but they had also been allowed to accrue so much power (through consolidation/M&A) that it was impossible to let them face the consequences of their own bad decisions and fail. So they had to be underwriten with public money in the form of QE.
A functional society requires healthy levels of both capitalism and socialism to survive. But the most important thing in my opinion, is that those who intentionally commit fraud or do not act in the fiduciary interest of their stakeholders are adequately punished. This last part is of course the rub - how can you tell if the leaders of business and finance were intentionally setting up their dependents for a crash? What is the adequate punishment?
Nobody forced the banks to participate in those markets. The government interference has been limited to demanding that banks treat the public equally instead of reinforcing structural discrimination.
If they have to treat people equally then they are forced to either participate in "those markets" or not participate in any market.
/world's_smallest_violin
You don't get to take advantage of structural discrimination and then whine about how hard it is to have to treat people fairly. If that's a problem for a bank then they should find another asset class to invest in.
Nobody takes about "taking from rich and giving to the poor". How about at least stopping giving more and more to the rich?
What about the people who put their money in the bank, the money that was used to give those loans? People who are relying on their pension plans? Life savings?
What you're saying is that we should _just take money from people_, without expectations to give them back anything directly.
Savings accounts are FDIC insured up to $250,000.
Many retirees hold government bonds, which aren't going to default.
A consumer-debt jubilee mostly affects investors, and maybe pension funds.
>Savings accounts are FDIC insured up to $250,000
So? Do you think that this sort of insurance is free, and can be called upon without economic consequence?
> Savings accounts are FDIC insured up to $250,000.
Where do you think this insurance comes from?
Read here, http://blog.mpettis.com/2016/01/will-chinas-new-supply-side-...
tl;dr is China will need to eventually give in and do debt forgiveness. there's strong historical precedent for it.
Is there a mirror? My corporate firewall is blocking your link.
Does Google cache work in that case? http://webcache.googleusercontent.com/search?q=cache:ZFFaYjV...
Afraid not. Symantec has the website flagged for some sort of "mass-injection" attack, whatever that may be.
If you have a job and the company has agreed to pay you, why don't you work for free?
Almost like the better part of a decade of free money tends to create bad debt.
On top of that, instead of getting rid of the people who issued bad debt ten and twenty years ago, and let new people into the banking system, we instead kept the same inept cleptocratic money managers in charge, but gave them more firepower.
We also left the same regulators (who did nothing to forestall the Great Recession) in place for good measure!
The definition of insanity...
I like how they devoted a whole paragraph to that point, although it's probably the most important one in the whole article.
So, imagine what negative interest rates will do. Seriously, I can't imagine it, I sense it will be bad, but I'm not sure how it will play out.
On the other hand, if the fed will pay me to borrow money, I'd love to borrow as much as I can and loan it out on Prosper or Kiva etc.
Alas, the banks get these primo rates, not average joes... who are still paying %15 on credit cards. (money the bank borrows at near zero) Risk compensation and profit do not account for probably even half of that spread.
The free money was supposed to be used in conjunction with increased government spending on infrastructure projects. Unfortunately the latter half of that ideal fell through and banks ended up taking that free money and utilized it in not so good ways.
Wouldn't this only sap the global economy if all those bad loans were backed by average Joes, who were then hurt by the loss of return? If instead they were backed by governments and multi-national conglomerates who already had hoardes of (free?) cash, then the effect on the economy would be limited.
Loans are 'non performing' precisely because whoever borrowed the money cannot pay it all back, or even keep up with scheduled repayments. Generally that's businesses, though they may be government owned. The article does discuss this issue and the problems with the different methods of dealing with it.
One view: this article is "an economically warped account that leaves important policy options off the table."
http://www.nakedcapitalism.com/2016/02/new-york-times-bank-b...
So, if one views the global financial system as a big distributed belief propagation algorithm (eg. min-sum) how do loans fit into this?
Perhaps it makes sense switching to a "quantum-like" dynamics where one may "borrow" energy for a short amount of time before having to repay it, as in Heisenberg delta E * delta t uncertainty. So decreasing interest rates amounts to messing with some kind of Planck's constant.
This isn't quite a relevant xkcd, but I do think it's relevant. Whilst it'd be cool to be able to apply models from physics to economics, there may be issues in applicability. http://www.smbc-comics.com/index.php?db=comics&id=2556
Very amusing.. Ouch.. But that tensor beef does look yummie!
I was just exploring an analogy, not particularly looking for any explanatory power.
Money is irrelevant.
It's clearly not a question of borrowing resources. It's conning people into thinking they have more resources than they actually have, while redistributing money around the economy. Until, the music stops and people notice they don't actually have anywhere to sit.
PS: It's sad how closely you can model the financial system as a pyramid scheme.
Reminds me of the joke, that if you can't pay your $100,000 loan you have a problem, if you can't pay your $100,000,000 loan then the bank has a problem. But it captures the scale of things.
For literally decades people have suggested that China's economy (GDP) wasn't growing, it's money supply was. And as a result there would be a time when even with relaxed credit you could not justify adding any additional debt. At which point that particular path would be cut off and a more accurate picture of the economy would emerge. Which seems to be happening now.
What would be useful, but no doubt hard to get, would be a list of Chinese firms which are currently technically in default on their loans and so at risk of dissolution. And even more useful would be an understanding of how the Chinese government would treat them (would they bail them out like our government did for GM, or let them fail like Lehman Brothers?)
Have to paste it: http://i2.wp.com/armstrongeconomics.com/wp-content/uploads/2...
Debt is an obligation of repayment in the future. So technically it is money that we owe our future selves and others. Of course, the future is uncertain, which is what makes debt risky (and profitable). If we enter another recession, much of that debt could default.
This idea of basically seeing into the future, pricing risk/rewards was what always drew me to study finance. Sounds cool on paper, but the reality is much messier and morally ambiguous.
Knowing that some of this will result in a partial economic downturn, how can the 'average investor' hedge/profit from it? Not in a 'Big Short' sort of way, just using this as an investment strategy for the layman. Any ideas?
sell financials. buy alcohol producers and distributors
buy gold.
buy bitcoin? :-)
Isn't that trying to time the market?
This is flat out impossible. Krugman assured us that debts do not matter and that trying to live within a budget is a wicked plot to impoverish us all.
Krugman also denies that the broken window fallacy is a fallacy -- he actively thinks it's a good idea to destroy things (or produce shoddy goods) so that you can get the economic stimulus of building them again. He may be famous, but that doesn't mean he knows what he's talking about.
Arguing whether or not Krugman is right or wrong about an issue is one thing, but it's another to say that he doesn't know what he's talking about. He's a Nobel laureate!
Is he really that bad? Or do you just disagree with him?
He's a Nobel laureate _who denies the Broken Window Fallacy_ (and who, to reiterate the original poster's point, thinks that living within a budget is a bad idea). If his ideas are that bad and he collects those kinds of honors anyways, something's wrong with the Nobel Economics committee.