Why the World Is Still in Financial Crisis
Resolving debts removes uncertainty, recapitalizes the banks, and can stimulate the economy for a number of years.
A two-time Nobel Laureate recently told Aaron Task at Yahoo's (YHOO) Daily Ticker, "The only solution for Europe is a unified banking system." Really, that's the only solution? I think it exhibits the inability of these trusted policy advisors to devise anything that actually solves the problem. Let me state what seems to have been forgotten: The problems aren't solved, until the debts are resolved.
Bailouts do nothing if the debt burdens on households and the productive economy are not reduced. Even the increase in business borrowing was unable to offset the impact of household deleveraging, so let's accelerate the process.
The banking problems stem from bad debts. Since a "unified banking system" does nothing to resolve the bad debts that are causing the banks to be undercapitalized in the first place, the problems persist until the bad debts are canceled or resolved. My message to Congress, Mr. Hollande, Ms. Merkel, Mr. Obama, etc, is that if you give money directly to banks, require them to cancel an equal amount of debts, thereby reducing the liabilities of the productive economy.
Or better yet, give the money to the citizens with the instructions that the first use of the funds is to repay their debts. If the household has no debts to repay, tell them to spend or invest the money as they see fit. This reduces debt burdens, recapitalizes the banks, and provides a source of capital to finance investments. I disagree with President Obama when he says, "The solutions to these problems are hard." In fact, they are quite simple.
The fastest way for governments to increase tax revenue is to increasing employment. The fastest way to increase employment is to grow the economy. The best way to grow the economy is to increase investment. While we should be warned that correlation is not the same thing as causation, the Federal Reserve's Flow of Funds Report shows that the weak economy has coincided with a decline in household debts. With consumer spending representing nearly 70% of our economy, it is not hard to see how reduced spending leads to excess capacity in the economy, and in-turn, weak economic growth.
Stimulus plans have failed because they only allocate funds to political cronies for projects that are unnecessary, and do nothing to reduce the debt burden on the households that drive the economy.
Central bank policies have failed, because all of their actions are aimed at making borrowing more attractive, but these policies do not address the fact that the citizens are not spending (and therefore not borrowing to finance their spending). Because this economy has been structured to grow when spending and borrowing increases, we will not see meaningful growth until this happens.
If the aim is to have the consumer and debt expansion remain the drivers of our economy – and that is another topic altogether, but all actions by policy makers seem to support the current structure – meaningful growth will not be achieved in employment or GDP until the debt burdens on households is reduced.
Reducing debts accomplishes the same thing as austerity; it just does it on an accelerated timeframe and redirects the government funds to people rather than corporations. The world has awoken to the fact that austerity is not an optimal solution, because it takes too long, and it should only be a matter of time before it becomes clear that the way to grow is by reducing the debt burdens on the productive economy.
To be sure, there are additional regulatory and structural changes that are needed in our economy and financial system to ensure that this crisis is not repeated, but why not make the economy healthy while working on the structural problems? Resolving the debts removes uncertainty, recapitalizes the banks, and can stimulate the economy for a number of years. This solution may not win anyone a Nobel Prize, but isn't it time we move on to something that addresses the heart of the problem?
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