Wednesday, 5 October 2011

Paying Down the Credit Card - Inequality and the Growth Problem

David Cameron had planned to tell the country today that ordinary people should work to pay down their debt levels, a message that might chime with common sense, but which is representative of the contradictions of our current economic situation. As many have noted today, Keynes's paradox of thrift tells us that if everyone increases savings / pays down debt at the same time the net reduction in demand will cause job and income losses which will make saving harder. So should the consumer pay down their debt? And can they?

During a demand-led crisis large companies, the rich, wealth-holders in general will be risk-averse. This is because shares for example, are subject to the reality that companies face the prospect of low demand for their goods and services, and an uncertain environment in which sources of funding may be withdrawn or constricted at any time. Corporations hoard cash for precisely these reasons, failing to invest in capacity because they do not expect to use it.

The risks inherent in instruments of debt are plain by now. Foreign debts, those of banks and governments, are in some cases already suspect. Domestic debts are also risky, as a rise in the rate of default could swiftly follow any new turn for the worse in the economy. And UK company debt is subject to these same risks, that is why we are forever hearing that small and medium size enterprises have trouble gaining access to money. In fact, the main place that money has fled to, aside from Gold, is the government.

The rates of interest the government has to pay are exceptionally low, especially given the level of inflation in the economy, and this makes government spending the only real avenue for expanding demand, but the coalition government has shut the gates on that. Meanwhile, those who spend the most as a proportion of their income-- the very poorest-- are heavily indebted and their wages are outpaced by inflation. If they paid down their debts there'd be less money for consumption, for sales of UK products and services, and the rest of the economy would struggle further.

But they can't, can they? The thing about the poorest people in our society is that they have to spend their entire income just to meet their needs. There might be a few luxuries available to cut back on, here and there, but with food and energy prices rising, employment scarce and wages largely stagnant, there are a lot of people out there agonising over buying christmas presents for their families this year. Over the cost of the small things that matter to them.

So right now there is a huge amount of money at the top, and a huge amount of debt at the bottom. Those who spend the highest proportion of their income are suffering the most. What is needed is a debt restructuring within the economy, not merely between economies, and this could happen anyway if the economic climate gets worse, as a wave of defaults would produce the same effect-- but with dire consequences.

And in the long term this situation is not likely to solve itself on the current trajectory, not without defaults. The interest payments on that debt transfer money daily from the impoverished to the idle-rich. Salaries and bonuses at the top have soared, and wages at the bottom and in the middle have failed to even tread water. David Cameron said that fairness is about a link between what you put in and what you get out. The wealthiest pay most of the taxes, but they control almost all the wealth in the country, let us hope they cannot expect to get more from this government than they already do.

We have allowed inequality to grow for decades in this country, and inequality is both a symptom and a cause of the current troubles. It has grown out of the debt crisis, with low wages cushioned by easy credit, and through that debt the imbalance in the ownership of wealth has grown in turn. Yet for a country so dependent on consumer spending the consumer has been punished time and again, while the pay-day loan sharks, overdraft charges and credit card bills wait in the shadows.

 The Government needs to do more to help the poorest and most vulnerable, not merely out of a sense of social justice, or to diminish inequality, but because they are the engine of this economy. And we aren't going anywhere without them.

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