One frequently rehearsed comment regarding credit, since the financial meltdown began in September, is that the crisis is caused ultimately by consumers using credit to "live beyond their means"; when the credit, as in the form of home equity, disappeared, the mortgage backed financial system collapsed. The recommended remedy, usually going hand in hand with this analysis, is that consumers should not to take on debt and should pay as they go. Both analysis and recommendation are simplistic and, in the larger scale of things, dangerous. Credit (loans) and debt are necessary for individuals, families, and households, as well as businesses and government.
It is almost impossible, in today's world, to live without credit and debt and pay as you go. We incur debt and others lend us credit all the time, in ways we don't think about. Households hire housekeepers, whom they pay once a week. The housekeepers work without pay for six days, extending us credit, as it were. We owe them money; our obligation is a debt. Payroll credit and debt are common. Factory and commercial workers are paid once a week or every two weeks. Many professionals get paid only once a month. Since the nineteenth century, such employees and professionals have had to obtain loans, taken against their next paycheck, to deal with emergencies and exigences of daily living. Farmers take loans for the seed, tools, and labor for planting, to be paid months later after the harvest. Businesses take loans to purchase inventory to be paid when sales are made. It was widely recognized by the 1930s, that much of the consumer distress during recessions, panics, and depressions, such as the 1890s depression, was due to lack of available credit which they needed to get through the hard times.
Credit and debt must also not be seen as simply an indulgence--piling on debt for simple consumption, such as eating at restaurants. Credit and debt can be used to purchase assets and to invest. Debt to purchase a personal computer for a person to sell goods on E-Bay is purchase of an asset. The personal computer produces income. Debt to pay for college tuition or books is an investment that will produce income later.
The need for credit and legitimate use of debt changes over the life course and the family cycle. When persons are young and families are new, they need certain goods (car for a salesman, professional wardrobe for a new lawyer) to start their work life or to support their family that they don't have time to save to buy. Taking on debt is worthwhile. Later in their lives, when older and children grown and out on their own, person's need for credit is less, though their financial ability to take on debt is probably at its peak. They need to save, instead, for retirement. But even in this instance, they may decide to take on debt to purchase the financial instruments or assets that will produce income that can finance retirement. This strategy is rational, as long as the risks of loss are not too great or are cushioned by secure savings.
In other words, it is useful to have credit and to take on debt. And it is often necessary live beyond one's means, if, by that, you mean to acquire more goods than one can pay for entirely at the moment of purchase. For most of everyone's life, means are so limited that, without credit, shelter, health, and nutrition would be impaired. Lenders extend credit and make loans to persons in these predicaments on the rational expectation that they will try to improve themselve by using the goods and will, thereby, increase their capability to repay loans in the future.
These economic considerations are so strict and severe that, we should be clear about this, that if the ability of most people to obtain credit and to take loans contract dramatically, because lenders are refusing to lend or the number of lenders decreases below need, economic depression will quickly follow and social progress will abruptly stop.
The real problem with the current credit/debt crisis is that something has happened in the American economy over the past thirty years to contract the ability of persons in our economy to be productive and to increase their productivity as they increase their health and education and obtain experience in jobs and careers. I have argued that the source of this contraction is the decline of manufacturing, the inability of the nation to invent a future for the manufacturing laborer, the shift to a service economy, and the over-regulation of economic activity which undermines the fundamentals of a free economy (right to private ownership of property, right to sell one's labor, etc.). For more on this, see my articles on the financial crisis.
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A Primer on America's Economic Crisis
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