EconomicReason

Debt levels, in particular in some Western countries, are very high. Many analysts predict that the solution to the debt problem will be either default or inflation, the latter being synonymous with default. Analysts then usually go on worrying about the effects of an impending default on the debtors (the Western countries, their currencies, their banking systems, and financial market prices). However, they rarely talk about the implications of a default on the creditors.

One man’s debt is another man’s savings. Every dollar borrowed is a dollar lent. If a debtor has a problem, then a saver has a problem. If there are doubts about whether debts will ever be paid back, then there should be equal doubts about whether savings are safe.

Whose savings are we talking about? Total US credit market debt is above 350% of GDP, which amounts to more than 50 trillion USD. Total reserves of China are slightly above 2 trillion, i.e. just 4% of outstanding US debt. Throwing in a few more trillion from other Asian and oil-exporting countries does not change that picture – the West is not indebted to Asia, it is indebted to itself. The largest creditors are our own pension funds.

The debt and consumption spree of the past 15 years happened mainly at the expense of our own old age and not at the expense of Asia. Money which was supposed to be invested was in fact not invested, but spent for consumption. Therefore, in the aggregate, not enough capital was invested, and out of the capital that was invested, much of it was malinvested, for example in housing. As there is not enough capital backing the outstanding debt, there is no source of income to service that debt, let alone to pay it back.

Note that social security systems can either be funded by savings (via capital transfers across time) or by taxes (via transfers across demographic segments of the population, from the working to the retired). Adding insult to injury, not only will the transfers via time turn out to be much smaller than planned, but also the redistribution from a shrinking working force to a growing amount of pensioners will become more and more difficult. If we indeed should be worried about debt, then we should be equally worried about our social security systems.