Steadfast FinancesLet Them Eat Credit: Debt as the 'Pacifier' of Income Inequality

Let Them Eat Credit: Debt as the ‘Pacifier’ of Income Inequality

Filed in Consumer Education , Economy , Financial Crisis 3 comments

Fascinating interview from NPR’s Deep Reads with Raghu Rajan, University of Chicago professor, former chief economist for the IMF, and author of Fault Lines: How Hidden Fractures Still Threaten the World Economy, and the cold shoulders he received after predicting the financial crisis in 2005 at a conference where the main objective was to praise Greenspan’s decision to keep interest rates so low for so long.

Highlights:

Bottom line: there has been a stagnation in the wages of a significant part of the U.S. population. And the stagnation has been because we haven’t improved the capabilities of those people.

Where am I going with this? Why has any of this got to do with the credit crisis?

If you look at emerging markets, when they deal with the problem of growing inequality and growing dissatisfaction of the population, the answer typically is: hand out some goodies, hand out some sweets… or… let them eat cake. So that the population feels happy at least for a little while.

Even though it doesn’t do a good job [at solving societal problems], at least the government is giving me this… uh… pension… or… this extra pension. This is what happened in Greece. You kept the government workers happy by giving them more of a pension, 14 months of worth of wages, more holidays, etc.

You don’t pay as much attention to your paycheck when your consumption is keeping up [with the status quo] – and that’s my point!

Over the last 20 to 25 years, the answer has been increasing borrowing. So that you borrow in order to finance a better lifestyle, but in fact, you’re going deeper into debt.

This is precisely what happened in the United States. In my mind, credit became the new way of [income] redistribution.

In other words, most of the last 30 years of “trickle down economics” was more of a “fake it until you make it” mentality. If you can’t make it, we’ll worry about that bridge when the time comes… and boy did it ever in 2008.

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Posted by CJ   @   16 January 2011 3 comments
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3 Comments

Comments
Jan 16, 2011
6:58 pm
#1 Dan B. :

Interesting interpretation…….Pre 2008 though, the fake was only a partial fake if you knew how to fully game the system. I know a few people who borrowed very heavily, went into bankruptcy, borrowed very heavily again, went into & emerged out of bankruptcy once again & moved on with their lives. Now again this was pre-2008 & I’m not suggesting that it’s some sort of an ideal way of life, nor am I suggesting that this was done on a wide scale. But………one could argue that at least in the case of these few individuals that I know, that they in fact did more than keep up their consumption………& that going deeper into debt was only a momentary situation that had little effect on their lives. After all they never had to pay it back, so not too much of a downside.

Jan 16, 2011
8:32 pm
#2 encognito :

Dan B.,

I did EXACTLY what you described but with a twist. I borrowed thousands of dollars($180K to be exact)from credit cards, used some of it to start a business and parked the profits in my SEP retirement accounts. When the curtain fell, I declared bankruptcy and retained the retirement money.

Jan 16, 2011
9:49 pm
#3 Matt SF :

@ Encognito

I’ve known at least one person to do something similar to what you describe… just happened to be a law student.

This was in the early 2000s, before banks rewrote the student loan laws where student loan debt could not be discharged/written off by bankruptcy. She borrowed as much as she could to finance her education & living expenses (more than they realistically needed), maxed out a dozen or more credit cards just before the deadline, and declared Chapter 7 bankruptcy.

So it appears she worked the system. Now, I haven’t had contact with her since 2002-2003, so I don’t know if she made out like a bandit or if she had to repay any of it, but as in most things in life… her unique knowledge of the bankruptcy code obtained in law school was key to her decision.

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