Central banks and mainstream commentators are starting to acknowledge that the world’s advanced economies have, for four years, been in the grip of some kind of debt deflation: firms and households repairing balance sheets by withholding spending, taking money out of circulation and using it to pay down debt. This has reduced business liquidity, causing firms to postpone investment, and thus has brought on chronic slow growth and serial recession.
Less readily acknowledged is the corollary: debt always has a counterparty; one person’s liability implies another’s asset. The indebtedness of the lower classes and the state corresponds to the savings of the financial sector.
Debt can be shifted around or it can be destroyed. The former is the preferred option when, in the interest of assetholders and on the pretence that repayment is possible, one tries to preserve the volume of outstanding loans. Thus the indebted north Atlantic governments (principally the US, Britain and the PIIGS) are trying to shift their massive obligations to the bondholding class (chiefly banks and institutional investors) on to the household sector. But, with falling asset prices (stocks and real estate) and low creditworthiness, that already indebted sector has little capacity for more borrowing. Unemployment has helped to squeeze some last drops from the bottle by cutting off household income streams, thus reducing pension-fund contributions and forcing people to run down their savings or borrow if they can. But these households also reduce their consumption, causing firms to lay off workers, shrinking the tax base and hitting public revenue.
Governments can substantially reduce sovereign debt only by extinguishing the government assets held by the creditor class. This can take three possible forms:
- Inflation, reducing the real value of nominal claims.
- Taxation of savers to run down their financial assets.
- A debt default or jubilee.