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Should We Eliminate Consumer Debt For Everyone and Start the Economy Over

As crazy as this idea sounds, one thought floating around right now is that of forgiving large tracts of consumer and mortgage debt to swiftly deal with the debt problem in the country today so we can get consumption back on track.

As long as consumers are buried in debt, and they are, with little growth there is no “little engine that could” available to jumpstart our U.S. economic engine.

About 70 percent of our Gross Domestic Product is tied to consumers and consumption but all that is happening at the moment is a slow pay down of consumer debt without any excitement for spending more to get things going.

Government can’t decide on stimulus spending, consumers are tapped out, consumer confidence is in the toilet, and there is nothing on the horizon that seems available to get us consumers, consuming again and creating jobs.

Stephen Roach, the non-executive Chairman of Morgan Stanley Asia, was recently talking about a need to massively reduce consumer debt as the U.S. did back in the 1930s to get things going. Roach is a well known economist so his ideas are not without merit or consideration.

Writing down massive amounts of that debt would have an impact but do we like the current result of not addressing over indebted consumers that don’t have the confidence or power to consume? Do we want three more years of recession or 13?

The real meat of the video begins at 0:50.

It’s a tough decision to make and until someone has the ability to drive such a solution it looks like economic progress will be more of the same.

And the counter-arguement to this approach is we don’t want to reward people who didn’t act prudently. I get that. But is that argument enough to force everyone into continued stagnation for a long time to come?

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Maybe we should learn some lessons from Southpark Bank and Randy.

Randy steps forward with a solution to fix the desperate financial state everyone finds themselves in. The town gets behind him and everyone starts to live a life that no longer depends on any economy at all. Meanwhile an unlikely savior makes the ultimate sacrifice to solve everyones problems.

Let’s Turn Back the Clock

On June 5, 1933, Congress passed a Joint Resolution which effectively nullified contracts dependent on payments indexed to the price of gold. These contracts were typically mortgages, leases, bonds, and long-term obligations. But during times of financial uncertainty even short-term contracts of the day would index repayment according to the price of gold. If gold prices rose, the amount of your payment would have to rise also, even though your income didn’t.

The Supreme Court later upheld this act and as a result, financial obligations of that day that would have risen by 69 percent were left flat thus avoiding mass bankruptcy of all sorts of people and entities.

Many years later the debate continues if it is better to forgive mass debt or suffer the consequences.

A 1998 paper by Randall Kroszner of the University of Chicago, came to the conclusion that this massive forgiveness of debt had a positive impact.

If the costs of bankruptcy are sufficiently high, however, a partial debt forgiveness which helps to avoid the costly bankruptcy state and mitigates investment distortions of debt overhang can increase the expected payments to the bond holders while also making the equity holders better off. – Source

Bonus

Want to learn more about these issues, listen to the radio show below about both global and personal debt and the possibility of massive debt reductions.


Damon Day - Pro Debt Coach

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Steve Rhode is the Get Out of Debt Guy and has been helping good people with bad debt problems since 1994. You can learn more about Steve, here.
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