Ausbuy

An Economy Driven By Debt

October 23rd, 2007

The monthly credit card repayments by Australians now exceed $18 billion and the total debt on their cards exceeds $40 billion as they rush out to buy the latest toys. We criticise politicians for many things but, this is a problem for which Australians carry personal responsibility. In the present era of full employment, people can and should be able to budget for regular repayments. However, we must take into account the fact that many people have substantial mortgages. Some of these mortgages were only made possible by the relaxation of credit standards by financial institutions. The availability of money, and a shortage of new homes being built, has resulted in the bidding up of house prices.

People now point to the value of their house and talk about their increased wealth and spend more freely. This is an illusion of wealth as they cannot normally realise the money. When they sell their house they probably have to buy another one at an equally inflated price. However, they can use the increased equity to borrow money for consumption or investment. This investment is often justified on the theory that assets always increase in value – but do they? It is certainly true to say that the debt always increases as interest is charged.

At the same time as this is happening, people are buying bigger and more expensive houses for their smaller families. This digs a deeper hole for the battlers as all this debt must be serviced.

When interest rates increase these people are immediately put under increased pressure. This so called “mortgage stress” is painful but in an era of full employment it can be managed. However, if there is an economic downturn and unemployment rises, there will be real problems. There will be more unemployment, benefits paid out, taxes will rise to pay for increased welfare, interest rates will increase to control the inflation which will be generated by wage claims – and the loans will still have to be serviced.

At the moment we have an overvalued A$ supported by a commodity boom and interest rates that are higher than most of our trading partners. This helps to control inflation but, if we had a recession the commodity boom would come to an end. At the same time the higher dollar is destroying our manufacturing capacity. Ausbuy hopes that this gloomy scenario will not come to pass but, if it does, there will be no point in blaming the government of the day – they won’t be able to do much. Our taxes will increase and inflation of imported goods will take off and we will no longer have the manufacturing capacity to handle this problem.

History would suggest that there will be a recession one day. The only question is when. It would be wise for Australian’s to:

• Regard excessive debt as an expensive trap.
• Control their urge to spend too freely.
• Support Australian companies who will stay around if the going gets tough.

Unfortunately, there are no easy solutions but, to finance an economic boom based on debt is not the way to go. It leaves us vulnerable to events in the world over which we have no control. We would like both political parties to face up to the situation.

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