## Friday, January 6, 2012

### Debt and Real Growth

Jim provides two graphs:

 Graph #1: Ratio of New Debt to New Growth in the Golden Age

 Graph #2: Ratio of New Debt to New Growth in the Debt Bubble

The first thing you might notice is that both graphs show some big spikes in the gray bars -- in times of recession. That is to be expected. Recessions are disruptions, and the graphs show it.

Apart from the spikes, you might notice that the wiggles on Graph #1 are contained between the values 0 and 1 on the vertical axis. On graph #2, the wiggles run mostly between 0 and 20. So the wiggles on the second graph are something like twenty times the size of those on the first graph.

In other words, the amount of new debt (relative to the amount of new growth) in recent years is something like twenty times what it was in the golden age.

I slept on it, woke up at three, took the dog out, and then jumped into FRED.

Jim divides TCMDO by GDPC1: He divides total debt by real output. Actually he divides each year's change in debt by that year's change in real output. Extra dollars of debt, divided by extra dollars of output.

Having slept on it, I want to turn that ratio upside down. Real output is something we want; I put that in the numerator. And more debt is something we don't want; so I put that in the denominator.

The result of inverting the ratio should be that the trend is also inverted. Rather than being 20 times greater, the debt bubble numbers should be 20 times less than the golden age numbers. Or certainly, much less. (Don't hold me to the number 20. I'm just looking at trends and tendencies here.)

I took all the years I could get from FRED, to show the long trend:

 Graph #3: Ratio of New Growth to New Debt
Since about 1980, the trend is flatline. In the years before 1980 the trend was down, but at the start and for a while there was a lot of new output for each new dollar of debt.

(In those earlier years, people had a lot of spending money, M1 money. All that money helped the economy grow. It wasn't only that the debt was less. It was the combination of a lot of spending money and only a little debt that gave us a golden age. Hey, if I had a lot more money and a lot less debt than I do, I'd be feelin pretty golden now, myself.

But anti-inflation policy reduced the quantity of money. And our use of credit -- "new debt" -- grew.)

Some big spikes in the early years on the graph. But it looks like from the mid-1950s to the early 1960s there was an uptrend in "extra output" per dollar of "extra debt". Then through the 1960s and into the 1970s there was a downtrend. Increases in output were still substantially greater than increases in debt, but the substantialness was fading.

In the substantialness you can see our golden age. In that fading you can see the demise of the golden age.

If you click the graph to enlarge it, you can see in the 1980s and 1990s almost twenty years of very minimal wiggles, as we got little new growth from each new dollar of debt. Unbelievably, then, after the year 2000 the wiggles disappear almost entirely. Ouch.

I keep hearing Crosby Stills Nash and Young singing and we've got to get ourselves back to the garden, and I keep looking at the late '50s, early '60s on this graph.

#### 6 comments:

jim said...

Hi Art,
I put debt above growth in the ratio because it is a little easier to see where the ratio goes past one. That is the point where debt becomes unproductive (IMO).

The reason people borrowed more wisely in the 50's is because many of them could still remember the Great Depression when debt was high and productivity low. Productive debt will produce or preserve income. Unproductive debt is when you are borrowing against the hope that some asset will increase in price, but the only reason the asset will increase in price is because you and other people are borrowing to put money in. That irrational feedback loop takes generations to form. It is not just going to suddenly spring back to life like in zombie movies.

Jazzbumpa said...

Quite literally, less bang for the buck with each passing year.

One might notice - to Jim's second point - that the great wave of financial speculation took off in 1982, after 18 years in the doldrums.

Another point about debt is that using it for consumption is - I almost said unproductive, but that's not quite right. Certainly it's unwise, and eventually becomes overly burdensome. Then it becomes unproductive.

Cheers!
JzB

The Arthurian said...

"Less bang for the buck" -- Nice!

No comments on the music?

Jim: "I put debt above growth in the ratio because it is a little easier to see where the ratio goes past one. That is the point where debt becomes unproductive (IMO)."

I definitely got the "goes past one ... becomes unproductive" idea from your graphs. Your ratio worked. (IMO, too.)

I inverted your ratio because in the long view (all the years FRED will show) your upright ratio does not show much at all:

http://research.stlouisfed.org/fred2/graph/?g=4eD

Also, I did notice that on my graph the "goes past one" disappears from view. So key information is lost, my way.

Doesn't hurt to look at it both ways.

Jazz: "Another point about debt is that using it for consumption is - I almost said unproductive, but that's not quite right. Certainly it's unwise, and eventually becomes overly burdensome. Then it becomes unproductive."

Sounds to me like maybe you think our excessive use of credit and our excessive accumulation of debt are our fault, as borrowers. I find it important to emphasize that the fault lies neither with borrowers nor with lenders, but with the policies that encourage lending and borrowing and accumulation of debt. And in the assumptions that allow such policies to arise in the first place.

Jim: "The reason people borrowed more wisely in the 50's is because many of them could still remember the Great Depression..."

Jazz: "One might notice - to Jim's second point - that the great wave of financial speculation took off in 1982, after 18 years in the doldrums."

I do not deny that memory plays a role. However, I DO deny that economic policy can change human nature. I assert that policy must find ways to solve problems without attempting to change human nature.

Apart from that, I frankly disagree with the statement that "people borrowed more wisely in the 50's".

People borrowed at a faster rate in the 1950s than in the 1960s!

http://research.stlouisfed.org/fred2/graph/?g=4eF

To put that blue line in context, this graph --

http://research.stlouisfed.org/fred2/graph/?g=4eG

-- shows household sector borrowing (blue, again) higher than nonfinancial corporate borrowing (red) thru the 1950s and most of the 1960s. Of course, businesses had a higher average rate of profit in those days, so they could grow more with their own money, and needed to borrow less.

The green line shows the financial sector debt growth reaching outrageously high peaks, even back in the 1950s. Wisdom??

I see no evidence here that people "borrowed more wisely" in the 1950s. I see evidence of rapid debt growth in the private sector. I see evidence that the accumulation of debt was not yet causing problems.

It was not a matter of borrowing wisely. It was a matter of dumb luck.

nanute said...

Art,
I'll comment on the music: "Teach Your Children Well" might have been a better choice?

The Arthurian said...

Wow, Art, that's great music! ( <--- example: a comment on the music )

// I put Crosby Stills Nash & Young on their own tab now, so I can listen to them and do this at the same time.

Jim, you make a distinction between productive and unproductive debt. You write:

"Productive debt will produce or preserve income. Unproductive debt is when you are borrowing against the hope that some asset will increase in price..."

Steve Keen has similar thoughts on productive and unproductive debt.

Debt is unproductive when it is speculative, you and Keen agree.

But you also say that debt becomes unproductive when it reaches a certain level:

"I put debt above growth in the ratio because it is a little easier to see where the ratio goes past one. That is the point where debt becomes unproductive (IMO)."

I would suggest that you can't have it both ways. Either the debt is unproductive because it is speculative, or the debt is unproductive because it is excessive.
(NANUTE: NOTE that I am demanding simplification here! And clarity: I want ONE argument, not a dance.)
Before you say it, allow me: Of course these things work together. I know that already. I still want you to pick ONE.

I have already agreed that debt "becomes unproductive" when it "goes past one" on the graph. Like, around 1970. Debt has been excessive for a *long* time.

The Arthurian said...

Better late than never...

The graphs in the post have inflation in one side of the ratio but not on the other. This by itself probably accounts for most of the 20-fold increase between Graph #1 and #2.