Monday, 21 May 2018

Thought-provoking Krugman article in NYT on 1980 being 'America’s Dismal Turning Point'; My view: Living within one's means, which includes serviceable debt, is key to financial stability

Last updated on 23rd May 2018

Please note that this article has two parts as reflected by the semicolon separation of two parts of the title of this post. The second part of the article is "My view" on living within one's means which refers to one point in Krugman's article. But my view is independent of Krugman's view on living within one's means.

America’s Dismal Turning Point by Paul Krugman, https://www.nytimes.com/2018/05/16/opinion/americas-dismal-turning-point.html, 16th May 2018

A small extract from it:

Meanwhile, circa 1980 financial leverage began its huge climb, with household debt relative to income soaring (and setting the stage for the 2008 financial crisis): [Ravi: article has a graph supporting the statement]
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Ravi: When I first stayed in the USA for around 7 months in my first USA trip around 1986/87, I was astonished to see how people (many people) in the USA splurged on borrowed money. I got acquainted with the term 'maxing out on a credit card'. I thought that using debt to lead a good life seemed to be the way ambitious and successful ("smart") USA people live, as what I saw in life in the USA (New Hampshire and Massachusetts mainly) was far, far more prosperity than in Mumbai and surrounding areas then. It took me some time to figure out that some people who splurged on borrowed money but did not have the means to pay the debt, got into bad debt traps. Their credit history got so devastated that no lending institution/company would lend them money, which in turn was financially crippling for them. Since that realization dawned, given that I (and my family) had faced a lot of financial trouble during my boyhood and college education days, I developed a big fear of taking on too much debt. I even avoided having a credit card as I felt it may tempt me to splurge and take on debt whose servicing would cost me dearly.

The above statement of economics Nobel laureate Krugman with the supporting graph that it was around 1980 that USA got into the 'huge climb' of financial leverage, which I view in layman terms as borrowing splurge, exemplified by household debt relative to income 'soaring', indicates to me that what I saw in my first trip to the USA in 1986/87 was a relatively new phenomenon. Perhaps a decade earlier, in 1976/77, USA would not have had this borrowing splurge addiction.

Krugman further states that this great increase in financial leverage (borrowing) from 1980 set the stage for the 2008 financial crisis! That is a very big statement for me. I mean, the most disturbing and the scariest event in my whole life was not the Mumbai 1993 serial bomb blasts when I was in central Mumbai and went through some trauma to get to my residential flat in Andheri (outer suburb of Mumbai). I got over that in a few days time.

The most disturbing and scariest event in my life was the 2008 (2007-08) USA (and global) financial crisis! As this financial crisis threatened to plunge the world into some terrible economic stagnation and recession which would have decimated the value of all my retirement savings money and income, and forced me to come out of (financial earning) retirement and face a tough fight for economic survival kind of situation. Going by history where economic trauma has sometimes led to countries going to war, it could also have led to some big war which would have been even more scary and disturbing. Fortunately, the USA recovered after a few years and got out of recession into slow growth. Also, India did not get into severe trouble.

For me the moral of the story of the 2007-08 USA and global financial crisis is that one should live within one's means if one wants to lead a financially stable life. One can surely take on debt burden if that debt seems servicable based on one's current and projected earnings. Sometimes debt is necessary to buy essential assets for the individual and his/her family. [I took a housing loan to buy my first small apartment flat (in Dombivli on the outskirts of Mumbai). Without the housing loan, I could not have bought that flat then. Years later, the money from the sale of that flat helped me to buy the small apartment flat in Puttaparthi that I live in now.] But debt that does not appear to be serviceable based on one's current and projected earnings should be strictly avoided.

In my layman view, this applies not only to individuals and individual families but also collectives, whether the collective is a spiritual commune, a town, a state or even a whole country. Prior to 2007-08 financial crisis, I thought that country level economics was a very specialized field and its rules could be very, very different from individual and individual family economics/financial analysis, especially in the context of debt levels. I preferred to live in blissful ignorance of such matters. The 2007-08 USA and global financial crisis changed all that. I was forced to do some reading up & viewing up on country level economics especially in the context of country debt levels.

Now I view the debt to GDP ratio as a key indicator of financial health of a country. I also read about countries who get into debt traps with major lending institutions and even countries. Earlier, one would read of IMF (International Monetary Fund) and WB (World Bank) debt traps that some developing and under-developed countries had fallen into. Now one reads about some developing and under-developed countries getting into a debt trap with China!!!

1) Eight countries in danger of falling into China’s “debt trap”, https://qz.com/1223768/china-debt-trap-these-eight-countries-are-in-danger-of-debt-overloads-from-chinas-belt-and-road-plans/, 7th March 2018

2) Sri Lanka: A country trapped in debt, http://www.bbc.com/news/business-40044113, 25th May 2017
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Some additional comments of mine which may help readers get familiar with Krugman's views on deficit financing vis-a-vis my views on 'living within one's means (including serviceable debt)' and note differences between his (Nobel laureate economist) view and my (citizen-layman) view.
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An article giving Paul Krugman's views on deficit in the USA: (Initial part of interview) https://www.vox.com/2017/12/14/16756872/paul-krugman-economics-policy-ezra-klein, 14th Dec. 2017. I do view Krugman as being too optimistic when he says things like "The United States is in a range where we really should not be worrying about debt." ... "It turns out that advanced countries, politically stable countries, have a tremendous amount of leeway on debt. We are nowhere close to anything that looks like a red line. If there's something we ought to be doing, we shouldn’t let the deficit impact deter us from doing it."

Ravi: I don't think Krugman may be that knowledgeable about world military level capabilities and tensions, entrepreneurial surge in many parts of Asia over the past few decades, political and social challenges with changes in global order etc. I don't think Krugman factors all this in his analysis. But these things are important. The world's changing and changing fast.

I think 100% debt to GDP ratio for advanced economy countries is considered to be unsafe by some reputed economists (don't have names and all now ... but that's the impression I have based on past readings). Krugman holds a different view. Maybe he is right. But, as far as I am concerned, there is a real possibility that Krugman is wrong on this (safe debt to GDP ratio for advanced countries).
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United States Gross Federal Debt to GDP, https://tradingeconomics.com/united-states/government-debt-to-gdp says that USA (Gross Federal) debt to GDP ratio in 2017 was 105.4. It was 67.7 in 2008 and 55.5 in 2000.

The US is a major outlier among advanced economies in one big, scary way, https://qz.com/1258097/the-us-is-a-major-outlier-among-advanced-economies-in-one-big-scary-way/ dated 21st April 2018, gives the IMF projections between now and 2023. It shows that IMF projects that USA debt to GDP ratio will rise steadily from now to 2023, in contrast to steady decline of debt to GDP ratio of other advanced countries.

This is the article referenced by the above qz.com article: Bringing Down High Debt, https://blogs.imf.org/2018/04/18/bringing-down-high-debt/, 18th April 2018. This article has some key graphs, figures and projections about country debt to GDP ratios. It states, "Debt-to-GDP ratios in advanced economies are at levels not seen since World War II. Public debt ratios have been increasing persistently over the past fifty years."

It compares USA to other advanced economies and states, "Among advanced economies, only the United States expects an increase in the debt-to-GDP ratio over the next five years."

Ravi: I am NOT saying that over 100% debt-to-GDP ratio of USA is time to do something drastic. USA is a powerful economy. It can power itself through even bigger challenges. But one should NOT be carefree in allowing this number to rise to even higher levels presuming that USA is such a special country that it will not face negative consequences of very high debt-to-GDP ratio as compared to other advanced economies.
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I have consciously stayed away from studying Keynesian and other economic theories as I think they are complex and have lot of jargon, and will suck a lot of my time. Further, the 2007-08 financial crisis has made me ****deeply distrustful**** of complex economic theories and analysis. So I look for easy to understand figures like debt-to-GDP ratio and factor in other matters like political stability and military power. I know that may be too simplistic a view and so I may get some things wrong. But I prefer that to complex economic theories and relying on opinions of top economist scholars. I think sometimes they don't know for sure but project an air of certainty - perhaps that's what is expected of them and so they do that. I mean, if top economists say that we are not sure and that maybe this will work but it could fail badly etc. etc., nobody will want to consult with them!

Where economists like Krugman are very useful to read is about their analysis of the past. The past is easy to analyze and nit-pick. The future is so full of unexpected and unanticipated stuff, especially in this early 21st century period with, to use the phrase of an IMF/WB former bigshot, 'tectonic' changes happening to global order, that I don't think Krugman or anybody else can be really so sure of the success of any economic policies they propose.
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[I thank nytimes.com, vox.com, qz.com and imf.org, and have presumed that they will not have any objections to me sharing the above small extracts from their websites on this post which is freely viewable by all, and does not have any financial profit motive whatsoever.]

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