In Paean of Debt



This week is ‘Money Week’. It’s an opportunity to promote to the middle classes, and anyone else who will listen, the virtues of wise ‘investment’. The aims are to promote the mystical (and indeed mythical) virtues of saving for the rainy day or the house deposit or retirement. And to promote financial literacy, which essentially means understanding the relationship between risk and return.

Before continuing, I should note that economics and finance are two quite different academic disciples, much as astronomy differs from astrology, and chemists differ from alchemists.

(Adam Smith who revolutionised economics was a moral philosopher, though not a moralist. On the other hand, Isaac Newton who revolutionised physics in the 1680s, was a mathematician, an alchemist and a money-man. His other preoccupation was proving that the earth was indeed its biblical age of just over 6,000 years. Our common understanding of finance – including the understanding of many of the ‘financially literate’ – is little more than a mixture of outdated morality and alchemy. The popular view, held by many financists, of compound interest as the key to near-limitless wealth is pure alchemy.)

The two disciplines – economics and finance – have one thing in common: markets. Economics is the study of wealth, understood as goods and services. Finance is the study of promises; financial alchemists treat promises as if they were wealth. Financists study promises. Financiers trade promises. Whether a Spark bond or a Westpac savings account, both are promises. A Zero share is a promise, sort of. A house in Herne Bay purchased for two million dollars is an implicit promise to reward the owner with two million dollars plus, should that house be sold. (Who cares if it is unoccupied?)

For economists, money is a social technology. It works by circulating: ‘my spending is your income’. For financists, however, money is a promise, an individual’s claim. To become wealthy is to hoard promises, rather than to circulate them. When economists think about money they think about spending. When financists think about money they think about non-spending; money, like squirrels’ nuts, is to be saved. Unlike nuts, money cannot be eaten. Rather, money is a promise that can be traded for other promises. King Midas was one of the first to confuse money with wealth. He was by no means the last.


Debt and Saving

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One of the lessons of money week is to teach us to save more and borrow less. This may work for some individuals, some of the time, but cannot work for society as a whole. Because saving and debt are essentially the same thing, just from opposite perspectives.

The truth is that both saving and debt are good, but like most things, they are bad when taken to excess. When someone saves, it means that someone else can spend. To lead a balanced life, we sometimes should be savers, and at other times in our lives we should be spenders.

Debt is an absolutely essential component of the circulatory system of all economies, and most particularly of capitalist economies built on the core principle of private property. The alternatives are all equity based: Islamic capitalism; philanthropic capitalism; public equity capitalism; state socialism.

Money must circulate. When some do not spend it then others must spend it in their place. In our protestant morality, the ‘others’ must be businesses; not households nor governments. Because business debt is seen as the magic route to economic growth; hence the more saving more growth rote. Never mind that most businesses spend more of their time repaying debt than taking on debt. Never mind that businesses are as debt-averse as the rest of us, and that banks shy away from unsecured lending. Never mind that, in the twenty-first century, businesses (especially those big businesses that pay very little tax) are the biggest savers in the global economy. Debt is for everyone; not just firms.

Debt is the aspirin of the capitalist economy. It opens up the arteries, preventing arteriosclerosis. Yet people worry about aspirin, much as they worry about debt. Maybe aspirin contributes to strokes, the Minsky moments of the human body? The main thing to note is that, on the whole, aspirin is good for us, not bad for us.

It’s excess debt that’s the problem, not debt per se. But remember that debt and saving are the same thing. Saving is simply debt from the creditor perspective. So, just as excess debt is a problem, it’s equally true that excess saving is a problem. The banks have to work really hard to try to convert our excess savings into someone else’s spending. They do work hard, and make lots of money for themselves which must also be spent somehow. When we see the finance sector working unusually hard to find spenders through creating promises, then that’s when the Minsky moment is more likely to occur. That’s when the economy gets a stroke; and threatens to collapse.

Limited liability and bankruptcy are essential elements of a modern, healthy capitalist economy. It is debt that ensures that the distribution of spending is much less unequal than the distribution of income. For a capitalist economy to survive, the distribution of spending must be much less unequal than the distribution of income. (It was limited liability and the end of the debtors’ prisons that put an end to Marx’s ‘end of capitalism’ scenario.) It’s why so much of our advertising is aimed at the young, while so much of our income is earned (and saved) by the old.


Politics, Culture and Debt

The political left has always had difficulty with debt. The centre-left shares this difficulty with the neo‑conservatives on the American right. It is the pragmatists and those on the left of the right who are generally more realistic about debt; and Catholics more than Protestants.

On BBC Newsnight last weekend Alan Greenspan said that the Eurozone was never going to work because of the huge cultural divide between Northern and Southern Europe. (On my OE in the 1970s, a German motorcyclist I met told me that Germans like to spend their holidays en masse in Southern Europe. They yearn to be stereotype Italians, to live like Italians; but just for one month each year.)

In How the Case for Austerity Has Crumbled, Paul Krugman noted:

The German political and intellectual establishment has never had much use for Keynesian economics; neither has much of the Republican Party in the United States. … In The Alchemists, Neil Irwin analyzes the motives of Jean-Claude Trichet, the president of the European Central Bank, in advocating harsh austerity policies. “Trichet embraced a view, especially common in Germany, that was rooted in a sort of moralism. Greece had spent too much, and taken on too much debt. It must cut spending and reduce deficits”.

By purging itself of its debtful sins, Greece might one day be cured. Austerity is the tight medicine for the lax. So far Greece has experienced a depression worse than the Great Depression, and there’s still no end in sight. Yet all Greece did was spend the savings of the thrifty Germans, Dutch, French, Belgian dentists and Austerians; not forgetting the Swiss and the Swedes. Someone had to. Greece got lots of goods and services. Germans accumulated lots of promises. The problem was and still is that they cannot swap roles. The Germans simply cannot become Italians or Greeks. And when they holiday in those countries, still in droves, they like bargain prices. Saving is deeply embedded within their culture.

In New Zealand’s political history the pragmatists and those politicians on the left of the right put debt into perspective: Vogel; Seddon; Ward; Coates; Savage; Lee; Kirk; Muldoon. Even Key is quite relaxed about debt, among most other things; for him, a financist, it’s a set of promises that are bought and sold. He’s right. On the other hand Ballance, Fraser, Nash, Richardson, Clark all had a moral aversion to debt; otherwise capable politicians, debt-aversion was their Achilles heals.

Yes, it’s great to save for something. But your saving is my debt. I can relieve my debt when you buy that something. Financial literacy is more than trading in promises, and distinguishing good promises from bad. It’s also about knowing when not to save, and when to work less so that others can earn and save.



    • To rephrase Draco’s question; some of us were already aware that money comes into existence as the other side of a debt but the question is: Why do we use this money=debt system? Why not for instance, have the government spend the money into existence.

      My understanding is that the people who own the banks benefit most from the current system (obviously) and that the history of the Federal reserve (to pick one example) is the story of the fight to have a debt based system v alternative system.

      Obviously your article is written in the context of the current system and I have no arguement with any of it but do you view the current system as the inevitable and only system?

      • This was my problem with this article also.

        It seems to be looking at the current system, not acknowledging that banks create new money when they make loans, and not looking at any alternative.

        Which seems a bit strange really.

    • The way the banking system works still means that one agents saving means some other agent getting into debt. In order for one agent to accumulate a surplus of income over expendature (eg saving) that requires some other agent to spend more than their income for that to have happened. Thats all there is to it.

      Are there alternatives to the way modern banking works? Probably not certainly none which have ever been tried. Money is always a debt and probably always must be. The problem is not that money is a debt, but that in the current environment there are no agents willing to spend more than their income to keep society functional and productive.

      • There is an alternative. It’s called Full-reserve Banking.

        All New Zealanders should be able to operate accounts at the Reserve Bank of NZ, not just commercial banks.

      • The way the banking system works still means that one agents saving means some other agent getting into debt.

        No it doesn’t, the private banking system creates most of the money in circulation through loans. They don’t actually loan out the money that they have on deposit.

        Are there alternatives to the way modern banking works?

        Yes, there are.

        We could have a system where the only creator of money is the NZ government. In such a system the government would create that money and spend it into the economy utilising NZ resources directly. Taxes would be used to balance that money creation.

        But here’s the interesting bit: The government itself would never go into debt.

        That would be true even if it was running a deficit as it wouldn’t have to borrow the money it needs to maintain government services. In fact, the government running a deficit would imply a growing economy and it running a surplus would be it shrinking the economy.

        In such a system then someone’s debt would be someone else’s lack of spending. Of course, there’d be no interest though.

        • All of the above comments (except Nic the NZer, who appears not to understand the debate) are advocating variations of the Positive Money solution, which in turn is very close to Social Credit, which was the inspiration for the Savage Government ‘s funding of the State housing program in 1936. In view of the current shambles of the present NZ housing bubble, it is time to try it out once more.

  1. Remove all foreign owned banks from NZ . Default on the debt they sold us in to and write off all mortgage debt . Re nationalise our assets and conduct an inquiry into the relationships between our past , and present , politicians and Big Business .

    A plane load of 45 polite and urbane people , including a rugby union team , crashes in the Andes and some of them end up eating the dead to survive .

    Desperate times call for desperate acts .

    Virtually ever woe NZ is facing is as a result of foreign Bank influence on our society . The debt they sell has a toxic flow-on effect that pollutes everything and everyone . We can study and learn the wily ways of the money fetishists all we like . No matter how the learned cypher , the learned can’t cypher past that simple fact .

    NZ had a ton of cash capital . Now it doesn’t . So , where is it then ?

    Keith Rankin ? Do you know where our wealth went ?
    Am I correct in remembering that Sir Jack Marshall achieved a balance of payments CREDIT of some 500 million dollars back in the early 1970’s ? He did that by warming up our traditional trading partners but pig muldoon soon sorted out Gentleman Jack . And that was that . Soon after , Pig was seen returning from Switzerland with a smile on his face .

    And for all you young people who think that , that’s irrelevant in todays environment think again . Crony capitalism isn’t a new thing .

    Get rid of the Banks . Lets see where we can take NZ / Aotearoa by ourselves by using our enormous bounty of resources , skills and drive ?

    Oh , wait . Sorry . I’ve gone to La La Land again . Forget I said anything .

  2. I think too, that pretending that NZ’s economic woes are financial illiteracy is a self-serving elite narrative. Key and English know perfectly well they are causing the current recessionary conditions most NZers are struggling to live under, as does that crook Joe Hockey across the ‘deetch’.

  3. In the mathematical world of economics models this may be true, but economists habit of refusing to look at the evidence of the real world in order to preserve the sanctity of their models shows that this is a lie.

    You would say that the amount of debt is always equal to the amount of credit, but a glance into the real world will show that debt is always growing since WW2 and when it gets too high the economy ‘hiccups’. This is not just an imbalance of debt and credit it’s too much debt relative to wealth.

    A major and easily preventable source of this debt is the money we use. ~98% of it is created by commercial banks when they make loans. They make it as debt that starts generating them interest, but they don’t make the interest, that eventually comes from someone else going into debt (starting to see the ponzi nature of this?)

    If the Reserve Bank created the money instead and then gave it to the govt for free to spend that would go a long way to reducing the amount of debt wouldn’t it. Would like to hear your thoughts on this in an article.

    • I agree with this essentially but there is no relationship between the amount of debt and the amount of credit (by which I assume you mean the initial loan capital). The capital is paid off unless there is a default, in which case it is written off (which is probably the best thing that can happen to it).
      The interest however cannot be written off and so increases exponentially at the prevailing interest rate. Compounding interest is the biggest single cause of all our debt problems.

      • So I assume you mean that interest should somehow only be charged on the principal? Hmmm, an interesting idea, I shall think on it.

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