Rising Private Sector Leverage
What changed over the last century? One hundred years ago government was small, money was hard, and leverage could be found and used, but it was costly in real terms since there was deflation most times.
Then came the Fed: Money was cheap. Although there were slumps, asset values, unlike trees, actually did grow to the sky. In the 19th century you might not be a loser if you waited to buy a house, horse, or commodity.
In the 20th century, if you didn’t buy it fast, and even use debt to do it, your relative position weakened. In the former, one was free. In the latter one was forced to act, or else.
At some point the buildup of credit would bring on a complete, utter collapse. It happened in the early 1930s, causing misery after debt rose to 185 percent of GDP by 1929 (to be increased by government borrowing to finance a recovery that wasn’t). In 2008, debt hit 364 percent of GDP.
Might not the practice of having an expansive central bank be like loading up one round in a revolver’s cylinder, say one with 50 or so holes, and pulling the trigger once per year while pointing it to the cranium of the banking system?
Eventually too much debt will wreak havoc, whether or not inflation is evident in the years close to the day of reckoning. (In fact, there was deflation in the 1920s.) And like the legendarily lethal game of chance played by Russian soldiers or their prisoners, fatality would be inevitable.
Although the Austrian view of credit explains the above perfectly, it does little to address the moral shortcoming of having imposed such a system upon the entire population, and especially the baby boomers who accumulated their life savings only to see them wiped out as they enter retirement age.
True, everyone should have seen this coming and refused to leverage up their balance sheet. But most instead took out mortgages on the right hand side and accumulated mutual funds on the left hand side, assuming they would save at all with the complimentary moral hazard of reliance upon state services from Medicare to Social Security.
Extremely strong and persistent incentives were codified into law that undermined any attempt by the citizenry to avoid debt, stocks, or real estate. The result is that out of a sense of equity we now find ourselves in the messy predicament of engaging in wholesale printing of money directly and outside the banking sector, which favors statist interests over the private sector, and further erodes any wealth left in the upper-middle class among those who were prudent in the face of central bank seduction.
Contrary to the Austrian orthodoxy, it may be necessary to favor debtors over creditors slightly in acknowledgment of the perversity imposed on the American people, which was perpetuated through economic ignorance. But ultimately the entire system must be dismantled and replaced with a gold-backed currency, because two wrongs do not make a right.
Otherwise, the heavy handed actions of the Fed and the Treasury in this cycle will send a clear message that reckless financial institutions and borrowers alike will never have cause to avoid risk.