What is better from a macro-economic standpoint

[The Don]

This is a genuine query, I have no axe to grind.

I was having a discussion with my wife over the weekend about macro-economics and we were thinking about hte levels of debt which had built up in the UK economy. The government is walking a tricky tightrope between encouraging people to reduce their levels of debt to manageable levels (you read "all" the time about someone whose entire income merely services their current debt) and maintaining spending within the economy.

So we thought what is the more damaging from a macro-economic standpoint......

- People reducing their expenditure and paying back some or all of their debt
- People going bankrupt so that the debt has to be written off, but carrying on spending with the same abandon

The more we thought about it, the less clear cut it seemed. At times when bad debts are being written off, the economy is in the mire, but is this an effect rather than a cause ?

Opnions would be appreciated

[shuize]

Not an economist or a finance wonk, but my gut would say the bankruptcy scenario is worse.

Even with reduced expenditures, money is still being freed up to be put to good use. By the creditors immediately and by the consumers down the road who will eventually have more available when they don't have to service their debt burden.

It seems to me bankruptcies will often lead to more bankruptcies when creditors either go under themselves or are stuck with bad loans and unable to extend credit to other consumers or business who need temporary loans to stay afloat.

Bankruptcies also prevent creditors from extending new loans to ambitious entrepreneurs willing to take a chance.

But I'm not sure how in your example someone can continue spending with abandon while in bankruptcy.

(Waiting for someone to tell me where I'm wrong . . . )

[Jon_in_london]

And also: Am I correct in asuming that a little bit of inflation is viewed as a good thing?

Also, why is a little deflation bad? If prices drop a bit then I can buy more stuff!

[Jude]

Originally posted by Jon_in_london
Also, why is a little deflation bad? If prices drop a bit then I can buy more stuff!

Would you buy a Xbox for $199.99 USD today if you knew it would be $175.99 USD in a week?

[Giz]

Originally posted by Jon_in_london
And also: Am I correct in asuming that a little bit of inflation is viewed as a good thing?

Also, why is a little deflation bad? If prices drop a bit then I can buy more stuff!

I think Govt's worry that if you get deflation then spending will drop off while people wait for prices to drop further. (I note Jude just got ahead of me).

A little bit of inflation is probably a bit of a hedge against possible deflation.

[UnrepentantSinner]

I can only extrapolate my personal finances to a macro level:

Pay off your debts, do what you can to increase your income and then you have pleny of money to give to charity, spend on consumer goods and otherwise stimulate the economy.

The biggest problem is jobs going overseas affecting overall income.

[The Don]

Originally posted by shuize

But I'm not sure how in your example someone can continue spending with abandon while in bankruptcy.

(Waiting for someone to tell me where I'm wrong . . . )

Like I say, no axe to grind and I got myself thoroughly confused over this one.

Let's say that I have a debt which is costing me £/$1000 to service each month. If I pay off the debt, that £/$1000 cannot be used to generate more demand (by buying new stuff).

If the debt is magically-schmagically written off, I have that £/$1000 to spend each month on new stuff, thus stimulating the economy


BTW, the other reason a little inflation is nice is that fixed size debts get relatively smaller over time so long as income keeps up with, or exceeds inflation. My parent's house payment of £34/mo was a big deal when they bought the place in the 1970s. Thanks to unhealthy inflation over the 70's and 80's it ended up being the kind of money they'd be able to find down the back of the couch.


With low inflation, a £1000/mo house payment will be a big deal for a loooooong time

[Jaggy Bunnet]

Originally posted by The Don


Like I say, no axe to grind and I got myself thoroughly confused over this one.

Let's say that I have a debt which is costing me £/$1000 to service each month. If I pay off the debt, that £/$1000 cannot be used to generate more demand (by buying new stuff).

If the debt is magically-schmagically written off, I have that £/$1000 to spend each month on new stuff, thus stimulating the economy

But this does not factor in the (equal and opposite) impact on the lender.

Say I had lent you the money. If you pay the interest, I have £1,000 to spend on new stuff stimulating the economy. If you default, that £1,000 cannot be used to generate new demand.

BTW, the other reason a little inflation is nice is that fixed size debts get relatively smaller over time so long as income keeps up with, or exceeds inflation. My parent's house payment of £34/mo was a big deal when they bought the place in the 1970s. Thanks to unhealthy inflation over the 70's and 80's it ended up being the kind of money they'd be able to find down the back of the couch.


With low inflation, a £1000/mo house payment will be a big deal for a loooooong time

But they have paid far more in interest payments as high inflation means high interest rates (assuming they are not on a fixed rate mortgage). If they are on a fixed rate, then they will have saved overall.

[The Don]

Originally posted by Jaggy Bunnet

But they have paid far more in interest payments as high inflation means high interest rates (assuming they are not on a fixed rate mortgage). If they are on a fixed rate, then they will have saved overall.

Yes, but when inflation was at 20-30%, the interest was "only" around 10%, so their loan was reducing in size in real terms (even if they hadn't paid anything back)