Monday, January 2, 2012

Unfortunately There are Three Types of Debt

Except for PhD economists and government officials most rational people are beginning to understand our nation’s most urgent economic problem.

By any measurement the United States has borrowed far more than can ever be paid back.

As a percentage of GDP we hold twice as much total debt and off balance sheet liabilities than we have ever held before.

But unfortunately this is not our nation’s biggest dilemma. Our biggest problem is that we are ignoring our nation’s horrendous addiction to debt.

This is because the PhD economists that help our elected officials create policy are not trained in accounting or simple finance. All debt is the same to them whether it is borrowed to add more lanes to a congested stretch of highway or to add more layers to our monumentally bloated government.

Training PhD economists to treat all debt the same is like training a Doctor to think of the stimulants Ritalin and Crystal Meth as equal remedies for a child with Attention Deficit Disorder.

Thanks to our nation’s incompetent economists the economy is presently overstimulated on the Crystal Meth of debt, also known as Dysfunctional Debt.

Dysfunctional Debt is the exact opposite of Productive Debt.

Productive Debt is a financial tool that can create economic growth.

Dysfunctional Debt is almost always a political tool. It is used by government officials to reward their political favorites. It is exactly like Crystal Meth. It reduces the junkie’s drive to produce and it is highly addictive.

To understand the corrosive nature of Dysfunctional Debt one must understand the nature and function of debt.

Productive Debt: Is a business, government or personal financial tool that allows resources to be used in the most efficient way today without affecting the future.

There are very few examples of Productive Debt:

• In business, money can be borrowed to create new product markets and new technology that don’t compete with our current markets.

• In government, bonds can be sold to create new infrastructure that is required for optimal future growth. Like adding lanes to a congested highway.

• In households, money can be borrowed to purchase undervalued real estate.

Productive Debt is a financial tool that creates a permanent improvement in our economy’s growth curve. It does not pull resources from the future.

The fastest GDP growth that our nation has ever experienced was from 1933 to 1953. This remarkable growth was financed by Productive Debt that built a new manufacturing base, constructed needed infrastructure and financed the purchase of undervalued homes.

Non Productive Debt: Is a business, government or personal financial tool that moves money from one entity to another:

• In business, money can be loaned to one businessperson to compete against another businessperson.

• In government, bonds can be sold to repair existing infrastructure.

• In households, money can be borrowed to purchase fairly priced real estate.

Non Productive Debt keeps our nation moving forward at a constant rate. It is a financial tool that works as a buffer to maintain stable economic growth. It is the most common type of debt in a healthy economy.

Dysfunctional Debt: Is a political tool that creates a destructive liability with the help of a false promise and phony accounting. I use the term Destructive to mean the opposite of Productive. This is because the nature of the liability is hidden as the money props up bad business and rewards bad investing. In extreme examples it permanently corrupts free market mechanisms. This is what we are seeing today.

Before this generation there are very few examples in this country of Dysfunctional Debt. Unfortunately today there are too many examples to list. There is layer upon layer of gifts to favored individuals and groups by our government that is hidden by false promises, phony accounting and market manipulation.

Real Estate is a good example of a sector of our economy that is addicted to Dysfunctional Debt. In 1985 homeowners on average had 70 percent equity in their homes. Since then the government has made it a priority to give resources to the real estate sector to help it grow.

Resources were robbed from the future to support unwise decisions in the present.

This has caused home equity to go down almost every year since the government made real estate a favored sector of the economy.

According to the Federal Reserve homeowners on average own just 38% of their homes today. Half of the amount in 1985.

This is sad but it is not the problem. The problem is that the government is adding trillions of taxpayer debt to support the bankrupt banks. Trillions in the future will be borrowed to support the losses that Fannie Mae and Freddie Mac are incurring now.

Adding the trillions in hidden government debt to the $10 trillion in mortgage debt means that taxpayers owe more money than their homes are worth. This makes our housing market insolvent. Like addicts we have taken the crown jewel of our nation's wealth and with the government's help we have sold it off for immediate gratification.

The dysfunctional real estate market is easy to see but there are many other sectors of our economy that have used government debt to rob productive resources from the future.

The economy of the next ten years will be the antithesis of the miracle economy of 1933 through 1953. Destructive Debt has replaced the Productive Debt that fueled the record growth of our grandparent's generation.

The next decade will see the slowest GDP growth in our nation’s history.

Thanks to PhD economists, government officials and the Crystal Meth of Dysfunctional Debt.