Debt initially dazzles and deceives, then it disappoints, disillusions, devastates, and destroys.
The thing governments do best is borrow. Performance varies across the range of their purported functions—warfare, maintenance of public order, provision of goods and services, redistribution, regulation—but they all go into debt. The structure of governments and their underlying philosophies also vary, but there’s one commonality. They are set up to optimize their own borrowing. Thus, central banks are essential.
There is a cottage industry devoted to the minutia of central bank personnel, policies, and pronouncements and what they mean for humanity’s future. Actually, cottage industry is not a correct characterization. No cottage industry could generate the kind of money paid to central banking’s acolytes.
After months of speculation, President Trump named Jerome Powell as the next Chair of the Board of Governors of the Federal Reserve System. If you know why the Fed exists and how it operates, the speculation was so much dross. The Federal Reserve exists to “facilitate” the US government’s issuance of debt. Mr. Powell will do what Janet Yellen, Benjamin Bernanke, Alan Greenspan, Paul Volker, G. William Miller, Arthur Burns, and every chairperson has done on back to the first one, Charles Hamlin: make it easier for the government to borrow. All of the other candidates would have done the same.
Central banks, their fiat debt, and ostensibly private banking systems that either control or are controlled by governments (take your pick) have facilitated unprecedented global governmental indebtedness. Suppressed interest rates and pyramiding debt via fractional reserve banking, securitization, and derivatives have led to record private indebtedness as well. The totals so dwarf the world’s productive capacities as measured, albeit imperfectly, by gross domestic product figures that the comparison yields an inescapable conclusion: most of this debt cannot be repaid.
A debt instrument is a promise to pay interest over the life a loan and return principle at a date certain in the future. If a private debtor dies before that date certain, his creditor can look to his estate for satisfaction of its claim, which has precedence over the claims of heirs. However, the creditor cannot go after the assets of those heirs. A government that borrows, on the other hand, is pledging repayment from the income streams and assets of future generations, binding parties that may not even exist at the time the debt is incurred. Specious as it is for governments to bind present taxpayers to debt repayment with only their “implied” consent, it is odious in the extreme for them to bind future generations incapable of any kind of consent.
Compounding governments’ culpability, their increasing debt loads make it that much harder for those future generations to repay. Debt that funds productive investment can be considered a factor of production. Just like any other factor of production, it is subject to diminishing returns. At some point the gross return of debt is so scant that after debt service costs, the net return is negative. Additional debt actually reduces rather than adds to economic growth.
This is already happening with debt-funded productive investment, but that’s not the worst part of the story. The lion’s share of debt funds consumption, which generates no offsetting return at all. If you borrow $10 and buy $10 worth of goods, the proper accounting for your transactions is that you’ve increased both your liabilities and assets by $10. There has been no increase in either your income or your net worth. Had you invested the $10, there is a possibility that your income and net worth might increase in the future. When debt funds consumption, it is always a net negative, unless the debtor can borrow at zero or negative rates.
The national income accounting of the US and most other nation ignores debt, so when a government borrows $10 billion and buys $10 billion worth of goods and services, it adds to the gross domestic product, official national income increases $10 billion. Virtually every dime a government spends some politician or bureaucrat will label as an “investment.” However, the claimed returns are dubious or nonexistent; the lion’s share of developed country budgets funds consumption.
In the US, the increase in government debt has been larger than the increase in GDP every year since the 2008 financial crisis. Under the accounting standards the government mandates for the private sector, the US is going backward, getting poorer. Future generations will carry an ever-expanding debt load with a shrinking ability to repay it. The aging population and unfunded pension and medical liabilities—promises made by governments, but not technically debt—exacerbates this bleak scenario.
This year the world has become aware of Mohammad bin Salman, the Saudi Arabian crown prince and heir apparent to the throne. It will be a long time, if ever, before we know the full story behind his recent maneuvers to consolidate his power. However, 32-year-old Salman is emblematic of what will probably be the future’s most consequential conflict: debt-ignited intergenerational strife.
Saudi Arabia sits on one of the world’s largest pools of oil, which has funded a welfare state on steroids. The Saud tribe and its allies have arrogated unfathomable wealth. The benefits with which they buy off ordinary Arabs make work an unattractive option; laborers are imported from other countries. However, the sand is running on this happy state of affairs. Beneficiaries and their “needs” have expanded faster than oil revenues. The country’s foreign exchange reserves are shrinking. It has issued debt and is contemplating a partial sale of Saudi Aramco, the national oil company.
Perhaps the young prince is seeing the writing on the wall and has decided to do something about it. Get rid of the old farts, their multitudinous wives, mistresses, siblings, children, nieces, and nephews, the conspicuous consumption and the shopping jaunts to London and Beverly Hills. Seize their jets, yachts, and fat bank accounts, certainly quite a haul. Start diversifying the economy. Wars in Syria and Yemen cost money, it’s true, but youth is inconsistent. The prince probably does not want his generation’s future (he’s reportedly popular among the young) further mortgaged by a kleptocratic oligarchy.
If so, he’s not alone. Across the developed world, the younger generation faces a future already mortgaged by a kleptocratic oligarchy. Unlike the prince, they can’t do anything about it, and relatively few are even aware of it…yet. Debt initially dazzles and deceives, then it disappoints, disillusions, devastates, and destroys. The oldsters got the first two, the youngsters will get the last four. The former reassure themselves: we vote, the kids don’t, we’ll protect our benefits. Debt deceives. Mounting public pension problems are a harbinger: you can’t squeeze blood from stone, not matter how many vote for it.
A collapse of the debt skyscraper of cards is inevitable, the issue is who bears the losses. Amidst the devastation and destruction, the young may cast a gimlet eye on the benefits their elders have voted themselves, and decide they’re less than willing to fund them. They may decide a generational uprising is in order—perhaps outside the boundaries of the normal political process—and a reshuffling of the remaining assets. The developed world’s elderly could find themselves in the same position as the oleaginous old thieves who ran Saudi Arabia: bereft of power and wealth. Except their reduction in circumstances may not be quite as tolerable as house arrest in the Riyadh Ritz-Carlton.