Saturday, April 7, 2012


The idea conveyed by the phrase "the productivity of debt" is false. Debt cannot be productive. Debt is only the record of outstanding loans. It is new credit-use that creates "extra" spending in the economy. It is new credit-use that can have a "productive" effect.

And I prefer to think of the efficiency rather than the "productivity" of the new uses of credit.

So when I saw a discussion of "the extent that spending is credit-financed" (see yesterday's post) I jumped right on that. Because the extent of credit use must certainly be related to the efficiency of credit use.

It's a point that bears investigation. But my intuition says a Laffer Limit applies. On a scale of zero to 100%, as the extent of credit-use increases I expect to see the efficiency of credit increase, peak, and decline. I see the peak as an optimum range, where credit use is most efficient, where it makes the maximum contribution to GDP.

I think too little credit use undermines growth by inhibiting implementation of good ideas, for example, and too much credit use undermines growth by increasing financial costs.

I also think this conflicting duality -- the benefits of additional credit use in combination with the loss to accumulating debt -- is a powerful source of cyclic behavior, generating or helping to generate business cycles, long waves, and maybe even cycles of civilization.

So I was interested in dwb's comment at Tim Duy's Fed Watch, and his related comment at Modeled Behavior.

At Fed Watch, DWB looks at the "gdp/debt" ratio, says "think of debt+equity as capital" and reads the long decline of the ratio to mean "the marginal product of capital has declined over time".

This is a fancy way to say the productivity of debt has fallen.

In the comment at Modeled Behavior, DWB reiterates: "the ratio of GDP/debt really is fundamentally the GDP/capital ratio more or less."

"[G]oing back to the 1950s, there is a consistent increase [in debt/GDP], (or more pertinently, drop in GDP/Debt). there is no correlation to interest rates or money velocity, its not a “credit binge” thing."

It is not a credit binge thing. I thought that was interesting. I take it to mean that our economic troubles today are *not* the result of asset bubbles. Rather, that the asset bubbles are death throes coming at the end of a long, initially golden increase in the accumulation of debt. I agree.

On the other hand, if you want to think of the entire 1947-2007 period as one gigantic credit bubble, that sums it up perfectly.

DWB also says this:

Now, if you think of the “debt” as capital and suppose you need a real rate of return of, say, 4% then 4%*totaldebt/gdp is about 15% of gdp or less. yawn, not really so unsustainable is it?


Put it in context.

Consider one example.

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