Global Crisis/Innovation Blog

Steve Keen on HardTalk: Write off the Debt!

By Shlomo Maital


   Steve Keen, “the merchant of gloom”, an Australian economist who predicted the global financial crisis, was interviewed on the BBC program HardTalk, on Nov. 25.  Here is what he said.  In short:  The banks have created enormous unsustainable amounts of debt, and we have no choice – either endure two decades of Japanese-like stagnation, while the debt slowly winds down to sustainable levels,  or write it off, start fresh, and avoid the ‘lost generation’ of youth who find no jobs. 

     “We’re already in a Great Depression, in the last one people did not call it that until it was over, always hoping change, improvement is just around the corner.. Great Depression wasn’t called that until the late 1930’s.  The situation now economists call transient may be like Japan, which had a lost two decades, this is the best we can hope for under the current situation, slow grinding process to wind the debt down. 

     “When you have a growing population and economy used to growth, people expect jobs when they leave school but find none, even if you grow a bit less than population change, that means we create a lost generation – which has one outlet, frustration and violence. This is not how to manage an effective society, to be caught in such a trap.  Hitler rose, because he reversed the conventional economic behavior of his time and turned Germany away from 25% unemployment (by building a war machine), leading to the catastrophe of WWII.  He would never have risen were it not for the Depression. You can get very bad social outcomes from the current situation.   The Tea Party was a visceral reaction, right wing. Occupy Wall Street is progressive, it’s been broadly-based, youth-based, people who are laid off, people you would not expect to sit in a tent on Wall St. …a major part of their attitude is that they’ve had their trust in society betrayed. They want a harmonious society. They are not socialists.  They believe society should be something we can trust in, destroyed by the financial sector. They want to rebuild that trust. They don’t know quite how.  I’m opposed to capitalism “parasiting” itself and living off other sectors. 

     “ I think Occupy Wall St. should occupy economic departments of don’t get into this fix without extraordinarily bad thinking among economists.  I think economic departments in universities should be closed. 

     “We have to change the political power balance.  The financial sector, the creditors of the world, are dominant politically for 30 years. The debtors are at the bottom.  We need to resverse that, turn the power back to the debtors.  Politicians won’t listen until they have to. Politicians are reactive, not leaders.  They go along with the general trend that a larger financial sector without regulation is a good thing. And they get their campaign contributions from it.      Banks created more loans than they should have, then bundled them and sold them to pension funds and institutions. So we can’t have a ‘jubilee’ (50-year debt forgiveness).  The debt is too widely owned.  We have to see where debt is good and where it is bad. Good debt finances investment in technology. Bad debt finances gambles on rising asset prices. THAT is what did the damage.  In America’s economy, good debt is sustainable at 50-70% of one year’s GDP.  Current level of debt?  300% of GDP.  Not sustainable.  The debt caused a house price bubble.   Write off debts of people like you and me.  We have to look at the situation, what do we face if we honor debts that should never have happened?  Best example is Japan, a cohesive society, and their GDP growth is lower than population growth, even with a falling population. We face two decades of that. 

      “We must admit something – the credit system has failed.   Historically,  in Australia, 10% of GDP went to pay for housing.  Today it is 100%.  That 90% financed the bubble.   But if we forgive debt on an individual basis it will take forever.  We need a systemic approach.  Households did not make the bad decisions. The banks did.  So we have to write off the debt.  As someone has said,  debt that CANNOT be repaid, WILL NOT be repaid. Let’s face it.   There are two sources of money: banks through lending and government through deficits.  Banks over-lent.  Let’s stop this and reduce private debt, while letting government create credit exclusively.  In the past 3-4 years, the rescues have been to create money and give it to the banks, believing the banks will lend. That is bizarre, because they’ve lent too much already. So all this money has been ineffective.  What we have to do, not easy, the working model is – give the money to the public,  to pay off their debt level, not spend it.  Per capita.  Pay the debt down.   It is not a tax cut.  If you give the money to everybody, and require debt reduction —  we reward those who over-borrowed, but, we must do this, because there is a system failure, and there has to be a system solution.  EVERYBODY gets a boost, and the scale of my solution is extreme, but normal policy allowed a 40-year buildup of unsustainable debt.  We need a sophisticated approach to eliminating an unsustainable systemic level of debt.   If we keep the parasitic banks alive, the economy dies.  If we did my solution, banks would get money in loan repayment.  Their cash flow would decline.  So the bank would struggle, and the financial services would decline – but most already are insolvent, we just haven’t recognized this. 

     “Banking behavior is positive when it provides working capital for business. It is negative when they finance Ponzi schemes to gamble on asset prices, where the money itself is causing that asset price bubble. This is parasitic.   Instability in capitalism is created.  It gets to technological breakthroughs.  This is creative.  That also includes financial instability. So I am trying to promote creative instability, and control financial instability.  We have to control the Frankenstein.  Banks make money by creating debt.  Most of us decline that debt, because it is dangerous.  In Latin the word ‘mortgage’ means ‘death contract’  (mort =  morte, death).  In the past 40 years, we were encouraged by economic theory to take on more debt than we should.  We have to prevent the possibility of asset bubbles financed by leverage from happening again, and it might.    Countries have rising sovereign (govt.) debt because much of the private debt has been made public by governments.   My Eureka moment: in 2005 I looked at the data for Australia, and saw debt growth in Australia rising exponentially, relative to income.    I plotted the data – perfect exponential curve, 1964-2005.  I thought, this has to change!  When debt starts to fall, we will have a financial crisis. I had to raise the alarm.     

      “People were not worried about private debt.  Because economists have a mythical view of debt – money goes from the patient people who have money, to those who are impatient and need and want to borrow money.  This is a myth.   Max Planck failed to convince his Maxwellian colleagues about quantum mechanics, and said, the old physicists have to die off before the young physicists will lead to the triumph of quantum physics.  The same applies to economics. The old Keynesians will have to die off.  Unconventional economics has been derided, but it knows the current version of capitalism doesn’t work.  And after the global crisis, this is being recognized.  I see no politician bold enough to do what I recommend. “