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No, The Economy Wasn’t Built On Consumer Debt!

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    June 8, 2014

    The other day a reader sent me the following Tumblr posting.

    “During an argument, have you ever found yourself unable to speak because you’re so overwhelmed by how utterly wrong the other person is and you can’t comprehend that they actually believe what they are saying.”

    At that time, I found it funny.  Yesterday, however, reality became stranger than fiction as Steve Liesman stated the following during a CNBC interview (via Zero Hedge):

    “Debt is always pointed out as a negative thing, when in fact debt is the great bridge between working hard and playing hard in this country.This country has been built on consumer debt.”

    This is the part where I found myself speechless.

    Let’s break his statement down into 3 parts for the purpose of this analysis:

    1. This country was built on consumer debt.
    2. Debt is the bridge between working hard and playing hard.
    3. Debt is always pointed out as a negative thing.

    (Note: The points are intentionally in reverse order so that they will correspond with the historical data)

    “This Country Was Built On Consumer Debt”

    This is just clearly wrong as even a cursory study and understanding of American history will tell you otherwise. This country was built on the strong backs and skilled hands of American ingenuity, innovation and determination. Yes, there are indeed many dark periods in our history where human misery, suffering and bondage were an acceptable consequence of economic expansion, but nonetheless it was labor that built America.  Not consumer debt.

    The first chart below is a history of economic growth in the U.S. as compared to total debt from 1870 to present on an annual basis.  I have included a polynomial trend line which shows that as debt began to surge in the 1980’s economic growth began to wane.


    What is clear is that sharp increases in debt have negative consequences for economic growth.  If we take a look at post-WWII data, we can more clearly see the impact of consumer leveraging on the economy.


    What Liesman misses, is that it wasn’t credit that built this country but rather high levels of personal savings that ultimately led to productive investments. Post WWII, the U.S. was the epicenter of production and manufacturing for the majority of the world as war torn Europe and Japan were rebuilt. However, post 1980, the collision of a structural shift in manufacturing, the rise in financial engineering and the age of “consumerism” changed that dynamic.  As can be more clearly seen in the chart above, the surge in consumer debt was used to bridge the gap between declining wage growth and an arguably unrealistic high standard of living.

    Debt Is the Bridge Between Working Hard And Playing Hard

    The rise of consumerism was greatly fostered by the rise of financial engineering and falling interest rates. More and more products were created to provide for low cost lending, no money down and longer financing structures.  The motto of “no cash, no problem” was quickly swept up by a largely financially illiterate population to the chagrin and rising profitability of Wall Street and the banking industry. However, there are inevitably consequences and limits to such actions.

    As I discussed recently in “It Is Impossible To Replay The 90’s”:

    “It was the ‘borrowing and spending like mad’ that provided a false sense of economic prosperity.  The problem with this assumption is clearly shown in the chart below.”

    Debt-PCE -GDP-InflationAdj-060514

    “In the 1980’s and 90’s consumption, as a percentage of the economy, grew from roughly 61% to 68% currently.  The increase in consumption was largely built upon a falling interest rate environment, lower borrowing costs, and relaxation of lending standards.

    In 1980, household credit market debt stood at $1.3 Trillion.  To move consumption, as a percent of the economy, from 61% to 67% by the year 2000 it required an increase of $5.6 Trillion in debt.  Since 2000, consumption as a percent of the economy has risen by 1% over the last 13 years. In order to support that increase in consumption, it required an increase in personal debt of $6.1 Trillion.  The importance of that statement should not be dismissed.  It has required more debt to increase consumption by 1% of the economy since 2000 than it did to increase it by 6% from 1980-2000. The problem is quite clear.  With interest rates already at historic lows, consumers already heavily leveraged and economic growth running at sub-par rates – there is not likely a capability to increase consumption as a percent of the economy to levels that would replicate the economic growth rates of the past.”

     Debt Is Always Pointed Out As Negative Thing

    Debt is a negative thing for the borrower. It has been known to be such a thing even in biblical times as quoted in Proverbs 22:7:

    “The borrower is the slave to the lender.”

    Debt acts as a “cancer” on an individual’s wealth as it syphons potential savings from income to service the debt. Rising levels of debt means rising levels of debt service that reduces actual disposable personal incomes that could be saved or reinvested back into the economy.

    The mirage of consumer wealth has been a function of surging debt levels. “Wealth” is not borrowed but “saved” and as shown in the chart below, this is a lesson that too few individuals have learned.


    Patrick Barron at the Ludwig Von Mises Institute made a great point recently stating:

    “Keynes’s dogma, as stated in his magnum opus, The General Theory of Employment, Interest and Money, attempts to refute Say’s Law, also known as the Law of Markets. J.B. Say explained that money is a conduit or agent for facilitating the exchange of goods and services of real value. Thus, the farmer does not necessarily buy his car with dollars but with corn, wheat, soybeans, hogs, and beef. Likewise, the baker buys shoes with his bread. Notice that the farmer and the baker could purchase a car and shoes respectively only after producing something that others valued. The value placed on the farmer’s agricultural products and the baker’s bread is determined by the market. If the farmer’s crops failed or the baker’s bread failed to rise, they would not be able to consume because they had nothing that others valued with which to obtain money first.

    But Keynes tried to prove that production followed demand and not the other way around. He famously stated that governments should pay people to dig holes and then fill them back up in order to put money into the hands of the unemployed, who then would spend it and stimulate production. But notice that the hole diggers did not produce a good or service that was demanded by the market. Keynesian aggregate demand theory is nothing more than a justification for counterfeiting. It is a theory of capital consumption and ignores the irrefutable fact that production is required prior to consumption.”

    Of course, Steve’s comments really are of little surprise. With the average American still living well beyond their means, the reality is that economic growth will remain mired at lower levels as savings continue to diverted from productive investment into debt service.  Furthermore, with the Federal Reserve and the Administration actively engaged in creating an artificial housing recovery, and wealth effect from increasing asset prices, it is likely that another bubble is being created.   This has never ended well.  The concern is that without a reversion of debt to more sustainable levels the attainment of stronger, and more importantly, self-sustaining economic growth could be far more elusive than currently imagined.

    Images: Flickr (licence attribution)

    About The Author

    Lance Roberts – Host of StreetTalk Live

    After having been in the investing world for more than 25 years from private banking and investment management to private and venture capital; Lance has pretty much “been there and done that” at one point or another. His common sense approach has appealed to audiences for over a decade and continues to grow each and every week.

    Lance is also the Chief Editor of the X-Report, a weekly subscriber based-newsletter that is distributed nationwide. The newsletter covers economic, political and market topics as they relate to the management portfolios. A daily financial blog, audio and video’s also keep members informed of the day’s events and how it impacts your money.

    Lance’s investment strategies and knowledge have been featured on Fox 26, CNBC, Fox Business News and Fox News. He has been quoted by a litany of publications from the Wall Street Journal, Reuters, The Washington Post all the way to TheStreet.com as well as on several of the nation’s biggest financial blogs such as the Pragmatic Capitalist, Zero Hedge and Seeking Alpha.


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