7 Years After The Debt Crisis, Here’s What Should Have Happened

via Flickr - woodleywonderworks
via Flickr – woodleywonderworks

Where to begin? Perhaps by asking the reader to search for lists of economic and financial crises. One will find that the recent Global Financial Crisis, Sub-Prime Mortgage Crisis and European Sovereign Debt Crisis are just more of the same reoccurring problems. It really does not matter whether governments exert a great deal of control over the economy or very little. It does not matter whether the currency is gold, silver, gold-backed, pegged, fiat or a transnational currency. As such, what is the solution?

While it would be foolish to simply suggest a brand new economic system; as this is The Last Revolution, a downstream effect of changing the foundation of government would probably impact the policies and regulations around how people engage in trade. For that is all the economy is, a collection of people trading with one another. This does not change even if humans have developed many complex layers to it: for even a loan is just a trade of money now for money later.

Take note too that one does not necessarily have to directly benefit for it to be a trade either. One might give their friend some money on the condition that the friend pay it back later. It is still a trade as both parties are agreeing to maintain a commitment to each other. It does not matter that the lender is actually losing the opportunity to profit from their money and the thing being given one way is the same as the thing being given back in exchange.

This is important to understand because it helps to find the right perspective from which to analyse the financial crises. If it is possible to boil the causes of the GFC, Sub-Prime and Euro-crisis to one common thing, it would be that the income of each of the affected groups was not able to meet the obligations each individual, business or organization entered in to. Once expected income streams failed to flow, the commitments started impacting the daily operations of many. Some companies collapsed and others had to cut costs to meet demands. The resultant reduction in money circulation plunged many parts of the world into recession.

Nevertheless, debt in and of itself is not a bad thing, provided that you have the means to pay it off. But, as most people are in the business of making money, loans are generally given on the condition that more is paid back later. If one takes on more and more debt, then one needs more and more income to support it. Even sovereign countries with their own fiat currencies have to follow this. That being said, a big difference between the average person and, say, the US government is that the US government has the option to make nearly endless quantities of the thing it has agreed to pay back.

What this means is that if one has perpetual growth of whatever they are committed to paying in exchange, one can constantly take on more debt. And, as loans typically allow for one to have access to more resources in the immediate term, the debtor can then use those resources to invest so as to generate the growth necessary to keep the rising debt levels in check. Considering the positive feedback mechanism in operation – debt can inspire necessary growth, what is the problem? Apart from the fact that not all investments are good ones, there is a limited amount of people, a limited amount of time in the day and limited access to resources. Unlimited growth in such an environment is not possible. It is like trying to guarantee positive liberties for everyone (seeΒ WhatΒ isΒ Freedom?).

You can attempt to overcome this problem in the short-term by constantly increasing the working population, but that is a topic for later. Still, at some point, in order to survive into the long-term; debt levels have to stop rising or drop in order to remain in balance with the limited opportunity for income growth. As a side note, even if the US government printed endless quantities of money to pay off endless amounts off debt; there would probably come a point where others would stop accepting those dollars at a cost. What is the value in something that everyone already has?

It is with the notion of surviving into the long-term that one arrives at the Sub-Prime Mortgage Crisis – the trigger to the global crisis and the global recession which triggered the European crisis. A sub-prime mortgage, as the name implies, is a loan, backed by real estate, given to people whom would not meet the usual criteria borrowers need to meet in order to be offered a loan. As it was stated, with an increase in income one can have greater access to debt which can in turn lead to further investments in order to generate more income. As such, mortgage lenders typically sell the income stream generated from lending money.Β  To further complicate things, buyers of those income streams can sell this income. At the very least, those that are receiving the money from the mortgage repayments generally commit to obligations on the back of those repayments.

Now if the only people taking out mortgages in the first place were those would could always repay their loans then there would be no problem for all downstream recipients of the funds. However, as there had been a rise in sub-standard debtors; there was an increased risk of people not fulfilling their obligations. Widespread defaults on mortgages would jeopardize the financial stability of all downstream dependencies – of which consisted a majority of financial institutions. These sub-prime mortgages offered financial institutions new sources of income and so they were pursued despite the obvious risk. The desire for short-term, very large profits won out over long-term thinking.

For whatever reason, people began to default on their mortgages. Those dependent on the loans started suffering some losses. When one starts losing money, one needs to cut costs in order to maintain their obligations. Now begins the slow-down of the economy. This further impacts the ability of others with mortgages to pay their debts – as there is reduction in the amount of money circulating the system. A positive feedback mechanism ensues. More and more default on mortgages which results in more and more financial institutions cutting costs and suffering losses which results in more and more mortgage holders losing income and so on.

It does not stop there. When there are banks seizing all these houses as a result of the defaults, who is there to buy them? A massive oversupply of property occurs which sharply drops the price of a house. Even those whom can afford their mortgage payments are thinking twice about paying it. Why? Why would you continue to pay a mortgage to the value of many hundreds of thousands of dollars for a property that may not even be worth one hundred thousand dollars anymore? More defaults occur, more banks lose money and the economy further contracts.

In the age of transnational corporations and easier access to foreign markets, most first-world economies are linked together. The effect of this economic contraction spreads to other countries as a result. You now are entering the global recession. Many countries in Europe were in the same position as the sub-prime borrowers. Countries such as Greece, Spain, Portugal and Ireland had all borrowed large sums of many on the back of tenuous sources of income. The recession hits these sources and the countries become effectively bankrupt. Remembering too that many more people and organization were relying on the cash flows from these government debts as they were the sub-prime mortgages in the US.

So what happens then? For the countries in crisis; current debts were waved or reduced and more money was loaned at reduced interest rates – allowing a rollover of the debt. To the financial institutions more money was lent. The bailout of the banks may not have been a bad thing, especially in the United States. This is because the terms of many of the loans have actually resulted in a great deal of profit to the US government. However, that is only a reasonable argument if you look at the situation in terms of dollars and cents.

On the basis that some things were just β€˜too-big-to-fail’, all around the globe the financial systems that would have collapsed as a result of the collective actions of those participating in trade had been propped-up. Here is a lesson in responsibility: large numbers of adults voluntarily made decisions without forethought and put themselves in precipitous situations; instead of having to suffer the full consequences of their actions, they are saved from themselves. This does not mean that particular individuals did not suffer, but the group as a whole was given a pass for its actions.

It would be like failing every test and assignment you had at school and still being allowed to graduate. Why bother even marking the test if that was going to happen anyway? Supposedly, humans learn a great deal through failure. When you are prevented from failing or can rely on a safety net, there are not too many lessons one can learn. Children are treated as though they have limited responsibility for their actions.

The intervention into the economy in this, and almost any economic crisis, teaches people that they do not have to learn from their mistakes. It effectively says you can keep acting on the same basis you were before, it is just that the rules will be changed slightly in order to effect a different outcome. This occurs when any new laws are invoked as a result of [potential] catastrophe. Laws are a method of guiding behavior through threat of punishment. Rather than have people analyze their actions on their own in order to re-evaluate their ideas so as to not bring about another crisis, governments enact new laws to forcibly change behavior.

It is a case of simple conditioning rather than learning. Dogs do not think about their actions, they are trained to behave the way they do with reward and punishment. Using the legal system to mould behavior instead of having people rationalize their decisions is exactly the same. Government intervention effectively means that people no longer have to think, they only have to do – to only behave instinctively like animals. It is quite a backward step from the age of enlightenment.

Some might view this situation as proof of a conspiracy to dominate and control the masses – like how a trained dog is obedient to its master. There is no harm in holding that view; however, the situation is probably just the likely product of the imperfect system within which society lives and not an actual concerted effort.

Before one begins to think such analysis is ridiculous, research the GFC, Euro and Sub-prime crisis; particularly what are listed as the causes. There is only one cause for all of it and it was that too many people/organizations/countries entered into more financial obligations than they could comfortably repay. That is it. Everything else that one reads is a diffusion of responsibility. β€˜It’s not MY fault, the system was set up in such a way to allow me to make bad decisions.’ That is the crux of what is written about the causes of the crises.

Humans are either rational beings that learn and are responsible for their own actions or they are animals requiring training and complete control over their daily lives. If humans do indeed need the intervention of government to get through the day, then society as a whole has no grounds to complain about totalitarian governments. If humans do need some control and yet complain about totalitarianism, all one would be complaining about is the spread of control to areas they do not like. But, if humans need to be told what to do then what they want or like is fundamentally irrelevant. One could not say people are smart enough to know what they actually want if they do also need to be regulated.

If humans do need to be told what to do, the bailouts and changes to the legal systems as a result of the economic downturns are fine as they fit into the idea that humans need to be babied through life. That being said, if this is the case, then a revolution to a dictatorship would be the best option. Democracy should be seen as ridiculous as it puts the reins into the hands of those needing to be directed. Not to mention that a dictatorship is far more efficient than people having to come together to agree on a course of action.

Conversely, if people are assumed to be reasonable, then the responsibility for the trades which they undertake are theirs and theirs alone. If the economy comes tumbling down as a result of a collection of bad decisions, so be it. Live within the world you create. Life has already adapted and survived for billions of years. Economic ruin is not going to suddenly end it all. To put it another way, mammals only came about because the too-big-to-fail dinosaurs were wiped out. This does not mean to say that destruction should be encouraged, but it is just to point out that life gets on with it even in the face of adversity. TC mark


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