The Use and Abuse of Credit

Every passing week sees yet another elegant analysis of "The Disaster" and its causes. Most share one quality: an attempt to blame anywhere but the source: you and I. As Pogo famously said, we have met the enemy and he is us. Package it however you wish, we in America have been drunk on credit -- a binge that has lasted a couple of decades -- and we now have one of the worst damn hangovers ever known.

I want to blame the rest of the world. After all, they are as much a part of the problem as we are. It's a global economy, you know. It takes a village to mess up a child so everyone must have been part of the mess. Well, yes. But the rest of the world is complicit in the same way that every abuser has enablers furnishing the abused substance and protecting the abuser from the consequences of the behavior.

Here's how it works.

Credit is a way of using tomorrow's money today. Stated another way, when we use credit we are creating money. Although we don't actually have it yet, credit is a convenient way to secure whatever money will eventually buy, whether it is this week's gas and groceries, the family car or the house in which we live. Most of the "little stuff" gets paid off pretty soon. Cars and "middle-sized stuff" like the lake house, cars and RV's fall into the five to ten year range and the "big stuff" (capital for a business enterprise or mortgage for the house) runs out twenty to thirty years.

Generally speaking, those are the rough edges and kinds of credit, but they vary from person to person because we don't all have the same incomes, ambitions or habits, so it's not possible to lay down strict rules for all cases. Generally speaking, credit is a convenient way of making the economy work to every one's advantage. New businesses made possible by credit make jobs and lifestyle options available for others. Credit is the lifeblood of economics. It's how "value" is created. Switzerland found out long ago that a pound of watches was more valuable than a pound of steel.

But just as alcohol can be included in a balanced diet, we cannot live on alcoholic drinks alone.** Likewise, healthy economies need a balance of credit and cash or they will be living so far into future revenue they may never live long enough to see it.

Ask anyone facing foreclosure (you won't have to look far) and you will learn how easy it is to exhaust all available credit. In the same way that someone out of drinking water in a lifeboat may be driven by thirst to kill themselves by drinking sea water, breadwinners feeding children are willing to use any credit available, even if it means facing bankruptcy. Desperation drives a financially perishing person to use savings, then credit cards, then home equity, then personal loans from friends, family charity, church charity, then loan sharks and pawn shops and finally, public assistance as long as it is available. That is why tent cities and increasing numbers of people living in cars are beginning to make the news.

The sad part is that the national appetite for stuff has been satisfied by credit for so long that there is nothing left to spend. Never mind toxic assets and the real estate bubble. Those are symptoms, not problems. The real problem is that America is broke. Flat broke. We have spent all our assets and lived on foreign credit for so long that now in our time of need we have no savings, no equity, no reserves, no financial safety net to catch us at the end of a financial free fall. Just as the drunk looks into the mirror and sees a bleary-eyed, disheveled mess needing a bath, shave, haircut and fresh change of clothes, the US financial community is about to the tent city stage.

In this case the "real thing" is not real. It's MORE CREDIT, but that is part of the drunk's recovery. People who work with alcoholism understand that someone who has been on a binge is at risk for sudden death if they stop cold turkey. In the old days the method was to "bring them down" by giving them a little less whiskey for a few days until their body made the adjustment. These days they "detox" under the care of medical professionals who use prescription medicines to guard against heart arrhythmia, strokes and hear attacks. (Unfortunately there is little to be done for liver damage but the good news is that the liver can heal itself if it's not too far gone.)

The CREDIT we are now forced to use is all that's left because the rest of the world has nothing left to contribute. In fact, if China had not been socking away a national SURPLUS (Remember that? They call it savings when families do it. When countries do it is's called a trade surplus.) we would have arrived at this sorry state of affairs some time ago. I heard last week that in addition to being the largest foreign holder of American treasury notes, China now has the world's fifth largest gold reserves.

America's smartest economists are down to the pawnbroker stage of borrowing. The government is printing money because the real thing is all gone. They are already aware that this is a last-ditch effort to get the motor running again. It's like getting a quart of gas from down the road and pouring every last drop into a dry tank, hoping that will be enough to get the car to the next pump. Pawnbroker credit works in the same way that the quart of gas works. But when the engine starts again the risk of runaway hyper-inflation will be waiting to attack on the way to "recovery."

Not to put too fine a pint on it, the next threat to economic stability will be in the velocity of the money supply. No one that I have come across has mentioned this next pitfall, and this is not the time to discuss it. Lets hope that the same smart people who decided to inflate the money supply are principled enough to put the brakes on inflation soon enough that the old smoke and mirrors fiscal policy (repaying debts with inflated dollars) is truly obsolete and not another tool waiting in the political toolkit. If that happens, we have no one to blame but ourselves. That's the downside of representative democracy. After all is settled, we create the problems as well as electing the people who either repair them or don't.

The good news is that on the way to recovery a lot of former credit drunks are climbing on the wagon as they discover how liberating it is to live on a cash economy. There is something deeply satisfying about starting the next month a few bucks ahead. In time, we may return to a time when people had enough savings to survive financially for six months to a year after losing a job. Many have known for years how beautiful a paid-for second-hand car is when compared with a "new" one with sixty months of payments reaching way into the unknown.

**Actually, one can live on alcohol alone, but not for long. Alcoholics in the terminal stages actually stop ingesting food and live solely on the caloric intake of alcohol, but their bodies begin losing muscle mass, starting with the buttocks and thighs, digesting stored protein and fat, as they approach death.