Macro Perspective: Life and Debt in The Great Stagnation
There's much ado about debt: lots of hype (and spin) about debt crises. So let's do a quick examination of the actual numbers, dynamic, and trends.
The first thing that's apparent from the chart is who's the best off, from the immediate perspective of long-run debt. Canada's been actively deleveraging for a decade--maintaining the often breathlessly discussed fiscal and financial discipline. Canadian households are leveraging up, but not to a degree that might cause alarm. Superficially, the picture of a relatively healthy economy. Next up is Germany, whose much vaunted fiscal and financial rectitude is on clear display. Debt flatlines across households, governments, and the private sector. Yes, you can argue that Germany's rectitude is the zero-sum benefit of export-led growth that effectively beggars it's neighbors, pushing them into deficit--at least to some extent.
What's more interesting is the sharp spike in the blue lines. They're bailouts, effectively: the transfer of liabilities from the balance sheets of banks to the balance sheets of governments.
Here's what I'd note: that for countries like the US, Ireland, and Japan, government debt begins to substitute for private sector and household debt. Deleveraging is beginning to take hold, in other words, as one kind of debt substitutes for another. The blue line spikes, but the red and green lines decline or flatline. Here, debt has hit a limit, reflecting either stagnation (the US), penury (Ireland), or deflation (Japan).
But in countries like the UK, France, and Spain, government debt spikes, while private sector and household debt continue to grow: there's no substitution effect. From a macro perspective, deleveraging has yet to ignite. Here, bailouts are subsidizing the accumulation of further debt. This is a sharp warning signal that moral hazard is winning the day.
So while there's a great deal of hullabaloo about debt and deficit, here's my suggestion. A quick glance at the dynamics reveals that the great crisis is far from over--and, more problematically, that today's immediate focus on the PIIGS' liquidity issues is to fundamentally overlook the deeper dynamics of debt accumulation and substitution. For many countries, the real crisis hasn't even begun.
There's no recovery because it's not a recession. It's a great institutional transformation. The immediate debt crisis represents structural capital misallocation, decades of malinvestment, toxic consumer preferences, hyperbolic social discount rates, intergenerational wealth transfer, negative marginal real wealth creation, negative sum payoffs for the majority of citizens in developed economies, secular overconsumption and underinvestment, real asset insolvency, and, of course, locked-in political capture.
The destination is a global capitalism that can do better than all the above. But the journey's only just begun.
NB--Data's from the BIS.