Boom and Bust Explained

The economy is nothing more than the commercial interactions of everyone with everyone. The sum total of all these exchanges of value, forced or voluntary, creates consequences, both at the individual and global levels. Over time, you and I create the business cycle.

Conventional wisdom, tells us that during our working years, we should save somewhere between 10% and 15% of our pretax income for emergencies, a down payment on that first home, college educations for the kids, and retirement. There are reasons why this doesn't happen. Most of those reasons, that are a matter of individual choice, involve debt fueled consumption. Debt allows us to purchase more in the present moment without having the money in hand. Multiplied by millions, your Christmas credit card purchases are helping to fuel a boom already juiced by about $1 trillion of new Federal funny money that enters the economy every year.

The stock market is running wild. Unemployment is down. Happy days are here again.

For about thirty years, the national savings rate was somewhere near sanity, even during the wretched decade of the 1970s. During that unhappy time of high unemployment, stagflation, oil shocks, and disco music there were some years I was unable to save at anything near an acceptable rate, but at least I managed to stay out of debt when either my wife or I were unemployed. But, changes were happening in the national psyche. In my childhood, debt other than a mortgage, was a scarlet badge of shame. Try to remember, the first general purpose credit card that allowed the consumer to carry a monthly balance appeared in 1958. Today, debt is viewed as a rite of passage into becoming an adult. Over the course of 60 years we have bought into a lie taught to us by banks and corporations who sell us consumables and depreciating assets, like cars.

However, the time will come to pay the piper. At the individual level, first the consumer saves less than the recommended 10% to 15%. We have many excuses for what we know is unwise behavior. The money I borrow to get a degree in Italian Film Art is an investment that will guarantee my future in the movie industry. Everyone I know has an iPhone10, how can I be expected to live without a $1,000 cell phone that will be obsolete in a year. The cost of our house is more than 3 times our annual income, but it is an investment that will fund my retirement, not an expense. My neighbors all drive new BMWs and Subarus, how can I be seen in public driving a ten year old minivan? Hey, I'm only thirty years old, my salary will increase without pause forever.

I can save tomorrow, but we all know, tomorrow never comes.

Then the consumer will add their debt at a slower level, as their monthly payment burden increases. Finally, consumers are tapped out. They can't add any more debt fuel to the economy, so everything begins to slow down. Business close, layoffs happen, then the repo man comes in the early morning hours to seize your Subaru. Since I left home for work before 5:00 AM I saw the Jerr-Dan tow trucks prowling the neighborhood on more than one occasion. Finally, the foreclosure sign appears on your neighbor's abandoned home.

There are only three things that can be done with debt, public debt, commercial debt, or individual debt. The debt can be repaid. This is painful. The debtor is slave to the lender. I have seen too many young people strapped with student loans that will keep them in servitude to others for decades, before they can begin their lives as free adults. Owing more on a car than the car is worth, happens the moment you drive the thing off the lot. During the train wreck of 2006-2008 couples couldn't sell their underwater home in one city to find a job in a new city, because they didn't have the cash to cover the shortfall.

When the debt can't be repaid, the debtor defaults. It is good to remember that debt that can't be repaid won't be repaid. In a country that allows individual bankruptcy, the lenders go out of business. There is nothing like a widespread bank panic to really wreck an economy. This has happened many times throughout history. Although, I don't know when, it will happen again, count on it. At this point during a business cycle in places like Southeast Asia and India, the borrower can really become the slave of the lender. Do a Google search. Prepare to be horrified.

Finally, if you are fortunate enough to control the printing presses, you can inflate debt denominated in your currency out of existence. I am the proud possessor of a $100 trillion bill from Zimbabwe. When it was legal tender, that would have been enough to buy a stick of chewing gum. Now it is worthless, except as a teaching tool to people like me.

The problem with the last two options is that they generally lead to blood in the streets. Revolutions, civil wars, dirty wars in places like Argentina, and even a World War all had their roots in unpaid debt. Think about that the next time you don't pay off your credit card balance.