The idea of a “debt jubilee” — that is, a wide-spread forgiveness of debt as a way to reset the US financial system — has been bouncing around for a while. But it hasn’t gained mainstream traction because it seems, at first glance, to be too simplistic to be worth serious thought. It must have a fatal flaw that would jump out as soon as one looks at it, which makes looking a waste of time.
But the idea keeps bubbling up, so the other day I finally decided to try to understand it. And the story, as with most apparently simple things, is more complicated and harder to dismiss than it seems at first.
According to Wikipedia, “The concept of the Jubilee is a special year of remission of sins and universal pardon. In the Biblical Book of Leviticus, a Jubilee year is mentioned to occur every fiftieth year, in which slaves and prisoners would be freed, debts would be forgiven and the mercies of God would be particularly manifest.”
Note the fifty-year cycle, which is not that far from the 60-year Kondratieff Wave, at the end of which debt is forcibly erased through mass default.
The problem with the classical jubilee concept is spelled out by Martin Hutchinson and Robert Cyran in a 2011 New York Times article:
The Downside to a Debt Jubilee
Good ends do not justify bad means. That philosophical observation applies to proposals for a big American debt jubilee that are now doing the rounds. The basic idea is to slash consumer debt, which is an admirable aim for an overleveraged nation. Household debt is still 90 percent of gross domestic product, down only modestly from the 2008 peak of 100 percent. But even bank-haters should recognize that this cure might be worse than the disease.
To start, writing off debts would not necessarily increase economic growth. Every liability is also an asset, so while a dollar that is no longer required for debt repayment might add some cents to consumer spending, it is also a dollar cut out of a bank’s capital or of an investor’s net worth — subtracting from resources and confidence.
And write-offs big enough to change consumer behavior would probably be big enough to destabilize banks. The Federal Reserve or the government would need to help, presumably by injecting newly printed money as capital. Such government control is usually inefficient, and abundant printing of money increases the risk of uncontrolled inflation, which has its own way of making people feel poorer.
The issue of moral hazard also cannot be ignored. Much of the excess debt was incurred through irresponsible mortgage refinancing, which peaked in 2006 at $322 billion, representing 2.4 percent of G.D.P. The reckless use of houses as A.T.M.’s was a major factor in decapitalizing and destabilizing the American economy. Forgiving such debts will teach the wrong lesson: borrow in haste, repent never.
Finally, investors would rightly see a jubilee as an attack on property rights. That runs the risk of throwing markets into disarray and discouraging foreign investors from buying assets in the United States. Risk premiums on both debt and equity capital would increase.
There are better ways to deleverage. Higher inflation does the job more naturally, without invidious choices about whose debt got reduced. But inflation also discourages savers, weakening capital formation. The best way to get debts under control is the hard slog of paying some back and writing the rest off.
Sound money, including interest rates above inflation, would help by preserving existing capital and promoting savings. After all, capital creation, not its destruction through debt forgiveness, is what makes capitalism work.
The fact that one person’s debt is another’s asset does seem to be a concept-killer. But in the ensuing year several jubilee proponents have proposed updated versions that address this flaw. Jump to minute 17 of the following interview with Australian economist Steven Keen for his proposal. In a nutshell, he thinks we’ve reached a debt “event horizon” where we can’t grow fast enough to escape the pull of deleveraging. His solution is a kind of quantitative easing for the masses, where the Fed gives individuals newly-created dollars with the requirement that they pay off their mortgages and credit cards.
And then there’s the mounting federal debt held by the Fed. Consider this, from a DollarCollapse.com reader:
As an average guy that has accumulated a small amount of wealth over the last 30 years of working and saving, I am terrified as to what may lie ahead. I read Dollar Collapse daily and also have read tons of information from guys like Jim Rodgers, Peter Schiff, Gerald Celente, Charlie McGrath etc. And while what all you guys say makes perfect sense to a “work / save / spend within your means” kind of guy like me, I am seriously wondering if we are really going to go down the path you guys all prescribe to…..hence the reason for this note. I hope you will indulge me and maybe even answer me back as I really am terrified and not sure how to proceed.
Specifically, what if the powers that be have another form of “exit/reset” of the system that guys that think our way don’t see? So I propose this hypothesis…
If the Central Banks of the World become the lender of last resort and take on more and more and more of the percentage of sovereign and business debt….why can’t they just “forgive” all those loans when things get really bad? I mean ultimately they were loans out of thin air anyway. They just wipe out the loan, and take the whole thing off of their balance sheet…wouldn’t it actually strengthen the remaining dollars? It may sound far fetched, but why would they “reset” the system, when they can just “forgive the loans” reset everything back to zero and in the end still have the dollar and still have control of the money.
Now we’ve entered some interesting territory, and as with so many financial things, the difference between traditional and “modern” is the introduction of fiat currency. In past debt jubilees, money was real, and debt could only be forgiven if the other side of the balance sheet was likewise affected. The debtor’s gain was the creditor’s loss, which meant no net gain in societal wealth.
But with fiat money so much of the financial system is fictitious that it opens up some new possibilities. The Fed is currently buying the majority of the debt issued by the US government, which in effect means the government is lending itself money (yes, the Fed was created as a private institution, but in recent years it has effectively merged with the Treasury and the military/industrial complex to form a single globe-spanning empire. It’s all one thing now.). So what would be lost by different branches of the fiat currency monolith simply zeroing out some bookkeeping entries? Just like that, the “national debt” shrinks by a third or more. Hmmm…
Same thing with the quantitative-easing-for-individuals idea, in which dollars are created out of thin air and passed to the banks, via the banks’ customers. Individual debts fall, bank loans are converted to cash, and systemic net worth increases by the amount of debt that’s eliminated.
This probably won’t happen, and would be profoundly immoral if it did. But because a modern electronic printing press makes such alchemy possible, it will be seductive to a desperate society that’s been shaped by the idea of voting for free stuff. So expect to see the jubilee concept become a topic of mainstream debate we drift closer to Keen’s debt event horizon.