While Austrians often trace out the effects that the issuance of unbacked currency has on the structure of production (the so-called Austrian Business Cycle Theory), there is also an effect upon individual households and the social mores surrounding the use of credit.
My favorite personal finance author, Dave Ramsey, writes on his website:
History also teaches us that debt wasn’t always a way of life. In fact, three of the biggest lenders today were founded by people who hated debt. Sears now makes more money on credit than on the sale of merchandise. They are not a store; they are a lender with some stuff out front. However, in 1910 the Sears catalog stated, “Buying on Credit is Folly.” J. C. Penney department stores make millions annually on their plastic, but their founder was nicknamed James “Cash” Penney because he detested the use of debt.
Henry Ford thought debt was a lazy man’s method to purchase items, and his philosophy was so ingrained in Ford Motor Company that Ford didn’t offer financing until 10 years after General Motors did. Now, of course, Ford Motor credit is one of the most profitable of Ford Motor’s operations. The old school saw the folly of debt; the new school saw the opportunity to take advantage of the consumer with debt.
This historical context makes one wonder whether this is a continuous process that has been going on since 1913, with ever-increasing “leverage” in the household budget. The Washington Post reports today that “Between 1989 and 2004, the net worth of the average American family increased by 35 percent, but household debt more than doubled as more families used debt to finance day-to-day expenses.” The graphic accompanying the story is telling:
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Interesting stuff, and thanks for posting it, Gil.
Me, I don’t mind much if other people are borrowing more. All that bothers me is that it’s not leading to huge interest rates on my own savings, like it should =-(
What I find most unsettling about the statistics is that income, which represents the market value of an individual’s production and which ultimately must fund the purchase of assets and support credit obligations, increased by only 15%, while the debt measures (and assets) increased by several times this amount.
If you discount inflation in home prices, the net worth has actually gone down. That’s what I find most disturbing.
Fiat Money Inflation in France, 1933, Andrew Dickson White
http://mises.org/books/inflationinfrance.pdf
He describes the moral decay as well.
Wow, I was not aware of White’s work. It’s incredible! A good quote (p.65):
“Then, too, as values became more and more uncertain, there was no longer any motive for care or economy, but every motive for immediate expenditure and present enjoyment. So came upon the nation the obliteration of thrift. In this mania for yielding to present enjoyment rather than providing for future comfort were the seeds of new growths of wretchedness: luxury, senseless and extravagant, set in: this, too, spread as a fashion.”
The Austrian Business Cycle Theory is incorrect.
Fascinating! Thanks Junker! And Gil! I’m definitely going to have to use that quote, or maybe even the entire paragraph it is from, in my paper on the ethical and cultural foundations and principles of free markets and free enterprise.
Robert,
You do realize that Hayekian triangles are not the be-all and end-all of ABCT, right? That even many Austrian economists are critical of Hayekian triangles and don’t think they are necessary to the theory? An argument against Hayekian triangles is not necessarily an argument against ABCT.
I do realize that I can quote incorrect statements from every exposition of Austrian Business Cycle Theory I have read. Whether the details of the ABCT can be reformulated to withstand capital-theoretic critiques and the other objections in the literature remains to be demonstrated.
Remember, the US government changed the way it calculated inflation in the mid 1990′s adding so-called “hedonic” adjustments to what used to be relatively simple calculations. While some of these adjustments may have been valid the project as a whole simply had the effect of lowering the reported CPI number, which was the real goal.
This had enormous effects on Real GDP, Productivity, Real incomes and a myriad of other government statistics. It allowed the cost of living escalators in government payments (lke Social Security) to be lower and tax brackets to index less – leading to a so-called “surplus”.
It also gave the Fed cover to print money like mad while being able to claim that inflation was “well-contained”, if losing half the value of the dollar every 25 years, which is what 2% inflation will do, is considered good. But even this sleight of hand was not enough to cover up all the inflation they were creating the Fed moved to even more resricted definitions like “core” inflation, as if spending on energy and food didn’t actually decrease your purchasing power on everything else.
This single event is the crux of understanding how we got to here.
Does the “wages” curve on the graph include benefits? Even though increasing health care costs don’t benefit the employees any, the graph seems to misleadingly imply that the companies are keeping more and more of productivity as profits, whereas it is more likely that most of that is eaten up by health care costs.
I wish the blog had some real economists review the material that gets put on this website. I am not referring to the comments but the main posts.
That graph is a joke. Look at Debt – $55,300, and then look at Mortgage Debt – $95,000. Wait isn’t Mortgage Debt a subset of total Debt? Or maybe Debt should be added to Mortgage? Look at Cafe Hayek for a discussion of this.
Next, the graph compares productivity to wages. Why is that not a legitimate comparison? Well, because only part of ones compensation is wages. With rising healthcare costs more and more of one’s compensation are benefits. Productivity should be compared to total compensation not just wages. And then you must be careful about the deflator when doing this comparison.
There doesn’t seem to be a critical eye towards economics or data on many posts on this website. It is sad to see this blog operating at such a low level of economic competency.
Tom, I agree that we should always use statistics with caution, especially when the government is generating them. The exact statistics, though, are not the main point of the post.
The Washington Post claims that their data are from “Survey of Consumer Finances, Bureau of Labor Statistics, U.S. Census Bureau, Bureau of Economic Analysis”. The BLS does a Survey of Consumer Expenditures, and the Fed does a Survey of Consumer Finances. It’s not entirely clear where these exact data come from. And it is clear that the data don’t sum as one might think they should. It all depends on what those categories mean.
However, if we go to the Fed’s 2004 Survey of Consumer Finances, Table 10, inflation-adjusted debt loading of families, we find that debt as a percentage of total assets climbed from 12.2% in 1989 to 15.0% in 2004. See here:
http://www.federalreserve.gov/pubs/oss/oss2/2004/bulletin.tables.int.xls
Now this is only a 23% change, not a 151% change (although that set of data shows credit card debt increasing by 107%, not only 69%), but my broad point remains: it may be the case that the loose money policies of the Federal Reserve over nearly 100 years may have changed consumer mores, resulting in higher household debt loadings, and that this trend may still be continuing.
Do you have evidence to the contrary?
Go read Russ Robert’s analysis of this graph. Gil misses all the important points.
“I wish the blog had some real economists review the material that gets put on this website. I am not referring to the comments but the main posts.”
Depends on what material you mean – the actual daily articles and some few odd blog posts are written by real economists. I suppose the bulk of the blog posts aren’t though.
Back when Ford and JC Penny made these assertions it did make financial sense to save and not spend on credit. Now because the value of the dollar drops every year borrowing money seems to be the most economically sound practice, especially with low interest rates and often times tax credits on interest paid (if you tie your debt to your house). If you buy a house today for $300,000 and take out a 30 year loan, in 30 years you are paying off that loan with dollars worth half what they are now. It seems stupid to a saver like me to admit that probably debt is the best practice, but I think the case can be made.
Every time I go to Cafe Hayek and read articles on this subject, I come away with less and less respect for the “economists” there.
I mean, really, if they can’t bother to understand what inflation is, why should I waste my time reading them?
Gil’s point stands. And that White book is tremendous.
}>:P
I wanted to throw this out there cause I haven’t seen it discussed, even among those who realize how bad debt based living is.
One of the chief problems of easy credit is that it short circuits the feedback mechanisms for individuals to determine how much they should pay each other – that is, how much should they earn? How much are they entitled to in compensation?
If it is too easy to borrow, then the path of least resistance leads people to borrow when what they should be doing is demanding more in earnings. But demanding more in earnings leads to potential disagreements and unpleasantness, whereas easy borrowing doesn’t involve any of that until the borrower cannot repay.
Put another way, a credit boom multiplies the claims the lending class has upon the borrowing class, while simultaneously undermining and distorting the process by which those claims could be satisfied. In the end, of course no one is happy: the lending class cannot be repaid and the borrowing class descends into default, bankruptcy and poverty.
As usual, the church had a solution for this problem: a “jubilee” year, in which debts were forgiven, the slate was wiped clean and everyone started over, hopefully having learned the lesson that debt based living is horribly wrong.
Nature will dictate the same solution in our day, but it’s much more destructive when the lender class refuses to face facts, and insists upon punishing and impoverishing the borrowing class for actions in which the lenders bear at least as much guilt if not more.
In other words, the debts will never be paid and any sane person knows it. The only question is who will bear the consequences of default. And the obvious answer to that is that the lender class should bear those consequences, but due to their far greater political influence they will resist that outcome until the suffering and impoverishment of the borrowing class reaches the social boiling point: you know, riots and all that.
You could just write it all off now and avoid all that, but it’s not likely.
Parenthetically, it would be important not to be too moralistic about the debt trouble so many are in. There’s plenty of fault to go around, and it’s unjust to place all the blame and visit all the consequences on the borrowers. That’s been going on for too long anyway. Time to let the other shoe drop, in my opinion.
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