How did we get so much private debt, and why was nothing done to prevent it?

How we got all that debt is simple: Policy didn't prevent it. In fact, policy encouraged it. But what's done is done. There is a better question: Why? Why was nothing done to prevent it?

Cecchetti, Mohanty, and Zampolli:

"For a macroeconomist working to construct a theoretical structure for understanding the economy as a whole, debt is either trivial or intractable. Trivial because (in a closed economy) it is net zero—the liabilities of all borrowers always exactly match the assets of all lenders."

I'm leaving out the part about "intractable" because they've already answered my question: "net zero". It comes to nothing.

Steve Keen:

"conventional economists ... ignore private debt as just a “pure redistribution”, to quote Ben Bernanke."

Pure redistribution: For every dollar my debt costs me, somebody else earns a dollar. It's the net-zero thing again.

Paul Krugman:

This is how you want to think about debt: it’s not a burden on the nation’s resources, because it’s mainly money we owe to ourselves, and it’s a problem not because we have to tighten our belt but because debt is currently leading to spending that’s less than we need to maintain full employment.

Krugman at least acknowledges that excessive debt reduces aggregate demand. But really, he's only changing the subject.

Debt's "not a burden," he says, "because it’s mainly money we owe to ourselves". Again, the net-zero thing. He enhanced the story, but he can't let go of net-zero.


Asymptosis summarized such explanations with exceptional clarity:

"Economists will tell you that gross debt levels don’t matter because one person’s debt is another’s holdings. (Net: zero.) They ignore it."

Yeah, I know: Net zero. But isn't it a weak argument? I mean, really. That's the whole story? Are we doing economics here, or are we just jerking off?

The "net-zero" argument is absurd. It's like balancing your checkbook (remember those days?), getting the errors to zero out, and then saying the zero means you didn't spend any money last month.

There's gotta be a better explanation. I need a better explanation.

I kept an eye open for a long time, and finally found a different story, from Patrizio Lainà:

"Interestingly, mainstream economists have given warnings about the public debt to GDP ratio (see e.g. Sargent & Wallace 1981), but at the same time they have almost completely neglected the private debt to GDP ratio. This might be due to Fama's (1965 & 1970) widely used efficient market hypothesis, which simply implies that private debt does not matter because it is always on the “right” level and no economic imbalances, such as bubbles, should occur. This, in turn, indicates that there is no need to study private or total debt."

The efficient market hypothesis. At least it's not net-zero again. And if the EMH has been debunked, that's good: It just means the "private debt does not matter" argument has no solid foundation.

Beyond that, something finally clicked for me, and now I have my own explanation, apart from net-zero and the efficient markets thing. My explanation is simple: As long as economists think credit-use is good for growth, they cannot see private debt as a problem.

I think mine is the strongest argument.