Interdum stultus opportuna loquitur...

Sunday, October 31, 2004

Another Excellent Piece

Note - from June 24th 2009, this blog has migrated from Blogger to a self-hosted version. Click here to go straight there.

A fantastic piece on "From The Wilderness" (which also has good pieces against the "abiotic oil hypothesis" that I have mentioned recently.)
I get a lot of moaning whenever I ramble on about the falsity of "American Economic Superiority" - my position, as you'll understand, is that anybody who is in the process of going from a large net creditor position, to a large (the largest) net debtor, will appear prosperous... for a while - as they spend the borrowed money.
Consider your personal financial situation; you start your adult life with some education and usually not much else. On the way through it you pick up some non-internal assets (if you don't already have some as a result of bequest or student-life thrift).
Let's look at a one-year timespan during which you move from a position of having positive net assets (say, $2k in the bank and no debt) to a significant (but minor, on current scales) negative net asset position. Let's say you end the period with nothing in your bank account (except on paydays), and a $5k credit card which is maxed out.
What do you think youir lifestyle would look like for the previous year - the time during which your asset position deteriorated?
Well, compared to someone with identical income, you would have been able to consume an additional $7k, give or take.
Assume that you and your debt-free analogue were both on about the average exit salary for University graduates (a paltry $35,000), and presto - you look 20% richer than the non-debt-accumulator (or debt-non-accumulator?) during those two years.
As far a the conspicuous-consumption side of things is concerned, you look like the guy with the new iPod, the colour-screen mobile with polyphonic ringtones, and the fit threads, and your mate looks like a dud... in those stupid Target cords he wears... what a loser.
I am not arguing against the accumulation of debt; that would just be stupid.
Properly managed and put to useful purposes, the credit market is a terrific way of matching capital with purpose, and funding projects that would otherwise fail. It is a vital engine of capitalism when properly employed - but a lethal injection when abused (i.e., when used to fund an "income gap" between the desired lifestyel of a consumer and their actual manageable lifestyle given their income and prospects).
But as Adam Smith said, "there is scarce a man alive who, when in tolerable health and spirits, will not over-value his chances of success in a venture".
And there's the rub; people can always equivoate to themselves, telling themselves that debt-funded consumption is a "temporary mismatch" of revenues and outgoings that will right itself once a rough patch goes away.
So while "Cord-Boy" may not have saved an additional cracker in the year since you started "living large", he's still got that $2k. Yes, he has almost certainly gone backwards (since returns on cash at bank is always less than inflation), whereas you have bought "things"... like that iPod.
The depreciation rate on cash is about 2% - the return on bank accounts (paltry interest) minus inflation. What d'you reckon the depreciation rate on iPods is? Colour-screen mobiles? Try 50% a year. Minimum.
In short, debt-financed consumption is the road to ruin; debt financed investment is less so, only so long as the leverage employed is working in your favour.
And don't for a second think that a motor vehicle is an investment (unless it's a Duesenberg, a Bugatti or a McLaren F1 road car). New cars depreciate 15% the moment you sign the title deed; older cars depreciate more slowly, but they are definitely a net-negative investment proposition.
Anyhow - I've digressed from the US a little...
The US looks prosperous, but it isn't. It is effectively selling bits of itself to finance current consumption. That's not sustainable.
Again, think of your personal finances; at the end of the year, you've run down your savings and your Virgin credit card is maxed. You want to go with your mates to Bali to see juvenile prostitutes (does anybody go for any other reason? I've never been).
Someone tells you that you can sell a kidney (just kidding)... do you go? Some people would. (Thankfully, most people - in the third world - who sell their own bodyparts, use the funds to finance genuine investment rather than consumption).
But it's likely that someone with a teenage mentality (like the entire United States) would sell their guitar (at a loss) or some other asset in order to fund a "project" that generates no future cash flow.
But eventually you run out of things to sell... even if you've got an unlimited supply of Treasury notes. The US is at that stage now, just as Britain was at that stage in the 1920's.