This is a good post about how the debt-to-income ratios are being ignored because the debt servicing ratio looks more benign. This particular write-up is about household debt, but we can look at govt debt the same way.
I just don’t see any easy ways out. We should have taken our medicine in 2008-2012 as this would have let those who caused the crisis (both foolish borrowers and foolish lenders) take the brunt of the hit. With what they’ve done, we will ALL be taking a huge hit. Meanwhile, those who caused the crisis have been busy protecting themselves and putting more and more distance between themselves and the damage they’ve caused.
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This focus uniquely on debt service costs with no regard to debt to income or debt to GDP levels – what I call “The debt servicing cost mentality” – is extremely dangerous. What I see – and what Roach seems to be pointing to – is the less steep falloff in debt to income ratios. And this makes sense because policy rates are at or near zero percent, meaning that the next recession will not witness such a large divergence in debt service cost and debt-to-incme ratios. For debt service ratios to recede in the next downturn, debt to income ratios must be reduced at the same rate, whether through lower debt from default and debt forgiveness or increased income. Likely, default will play the overwhelming role, at least initially.
As I outlined over two years ago, the origins of the next crisis are the simultaneous attempt for the public and private sector to deleverage simultaneously across a broad swathe of large industrialised countries. What we should anticipate – and what we have already seen in the euro zone – is failure and debt deflation because you must have massive defaults and debt forgiveness to effect simultaneous deleveraging in the public and private spheres. If and when the United States joins the party, that’s when the full ramifications of our policies will become evident.
