The combined impact of fewer workers and lower productivity is enormous. In 2008, before the true extent of the recession was known, the Congressional Budget Office (CBO) projected that by 2017 the economy’s potential would be 29 percent larger than it had been in 2007. In its most recent report, the CBO puts the economy’s potential for 2017 at just 16 percent more than its 2007 level. This difference of 13 percentage points translates into more than $2 trillion a year in today’s economy.
It’s also well worth noting that this lost output is income that disproportionately would have gone to those at the middle and bottom of the income ladder. The people who don’t get employed in a weak economy are overwhelmingly African Americans, Hispanics, and workers with less education. Furthermore, in a weak labor market, workers at the middle and bottom of the wage ladder aren’t well positioned to get wage increases. The weakness of the labor market in the Great Recession and the anemic recovery that followed were both associated with a large shift in national income from wages to profits. In short, this was a hard punch to the belly for large segments of the working population.
Basically what you had in the Bronze Age and every ancient society was a different concept of time than you have today. You had the concept of time as circular. That meant economic renewal. The idea was that every new ruler, every new reign, began time all over again. It wasn’t really time, it was really the economy had to start from a new position of equilibrium. This equilibrium – basically freedom from debt, the ability to support yourself – had to start afresh. Continue reading
We typically think of the economy as consisting of four sectors: the external sector, households, businesses, and the government. In China however it is more practical to subdivide these further into the following:
- Creditors. Creditors are forced to absorb the losses associated with writing down the debt when the borrower defaults on its debt and restructures it with a principle or interest reduction. Much of China’s debt burden has been extended through the banking sector, however, and because the debt that must be written down exceeds the banking industry’s capital base, ultimately the cost will be passed on to some other economic sector – for example Chinese households ultimately absorbed the cost of the banking sector losses generated in the late 1990s.
- The external sector. To pass on costs to foreigners requires that they have significantly larger exposure to China than they actually do, and would also probably require defaulting on external debt, a path Beijing is unlikely to choose to follow.
- Ordinary households. Most banking crises, like the recent US and European crises and the Chinese banking crisis at the end of the 1990s, are resolved by hidden transfer mechanisms that pass the cost of writing down debt to households. China today however must increase household wealth, not reduce it, if consumption is to rise fast enough to allow investment to decelerate, which means ordinary households cannot be allowed to absorb the cost.
- Wealthy households. Given high levels of income inequality, and the low propensity to consume of the wealthy, forcing them to absorb the costs of writing down debt – in the form of highly progressive income taxes, for example – is likely to be among the less costly ways economically for Beijing to pass on the costs of paying down debt. As their income or wealth is reduced, the wealthy are likely to convert most of that reduction into lower savings and very little of it into lower consumption, thus minimizing its adverse impact on domestic demand.
- Small and medium enterprises. Chinese SMEs are among the most efficient economic entities in China and are likely to be the main source of innovation and value creation in the future. Their long-term success is vital to China’s long-term growth. Like ordinary households they should be protected from absorbing the costs of Beijing’s debt-management policies.
- Local and provincial governments. These have amassed a considerable amount of assets whose liquidation would most efficiently absorb debt write-down costs and would entail the lowest medium and long-term economic costs, although not perhaps the lowest political costs. As their assets are liquidated, total Chinese savings will decline and Chinese consumption will remain largely unchanged, thus minimizing the adverse impact on domestic demand.
- The central government. Beijing too could pay for the cost of writing down debt by liquidating central government assets, although this may conflict with other economic policy objectives, including overcoming vested-interest opposition to the reforms.
That simple observation holds the key to explaining the post-79 era in British politics. How do you win an election? Inflate the property market. How do you mimic economic growth? Encourage housing equity withdrawal.
In savvier parts of the establishment, that relationship is now tacitly accepted. The latest Economist has a discussion on household debt in the UK that concludes: “It remains unsustainable for household debt to rise relative to incomes indefinitely … But for the time being rising debt may not be a bad thing … The British economy may be somewhat unbalanced, but at least it is growing.” This is the house journal of the departure-lounge capitalist class admitting that the British economy may be tapped out, but at least we can keep borrowing.
Figure 7: Acceleration of private debt and change in unemployment (Correlation coefficient -0.82)
On capital, debt and the future of capitalism.