When people go into debt it increases the total amount of money in the economy, because banks create money by making loans. When they pay off their debts it decreases the money supply, via the reverse process. A falling money supply usually triggers a severe recession (imagine draining all the oil out of your car engine and then seeing how well it runs).
This means that we have an economy where, if we want to avoid a recession, it is essential that the public take on new debt at a faster rate than they pay off old debt. Is ever-increasing debt a sustainable basis for a healthy economy?
The Reserve Bank makes no effort to restrain or limit privatised money creation by the banks - they don't try to limit how much debt the banks can create. If anything, the vast majority of their activities are designed to enable the banking sector to create as much money and debt as it can, subject to some (inadequate) provisions for the liquidity and accounting solvency of the banks.
The money supply - and therefore the levels of debt - will always, in normal circumstances, keep rising until a sizeable number of borrowers start to default. The economy will then go through a period of recession or stay stagnant, until people adjust to the higher levels of debt, start to think it is normal to pay $350,000 for a house that recently cost $200,000, and then start borrowing from the banks again.
Following is the Household debt as a percentage of disposable income – over the last twenty two years – from the Reserve Banks statistics: It has risen from 60% to 144%.
The Government is encouraging us to save more but its own Savings Working Group released its report to the Minister of Finance in January 2011, section 4.2.1 pg 43, stating that:
"the rise in borrowing was accompanied by a rise in total interest payments, and these payments have over the years risen as a proportion of total household income. They have therefore had a downward impact on disposable income, which in turn has reduced the household sector's ability to save."
How can we save, when our debt burden is so high? The next generation is facing an even bleaker future as they are saddled with student loan debt, must save for their retirement, pay for aspects of their children’s education and save for a house.
Even if we could save and reduce our debt, we are trapped - because debt cannot fall by any significant amount, as any attempt to repay loans en masse reduces the money supply and therefore tends to trigger a recession.
In a recession people tend to borrow in order to stay solvent, so they increase their level of debt once again.
In 1970 a single-income family could capitalise their Family Benefit for the deposit on their house, and pay off their mortgage within 10 years to 15 years.
In 1990 it took two incomes to pay off the mortgage.
In 2010 two incomes is often insufficient to pay the mortgage within twenty years.
We have been “adjusted” to the new reality of house prices – or said in another way – the frog is being boiled gently!
By 2020 the dream of home ownership may have become just that – a dream.