'History Is A Battle Between Creditors And Debtors' : Planet Money "Every so often these two clash, there is a crisis and the whole system is remade."
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'History Is A Battle Between Creditors And Debtors'

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'History Is A Battle Between Creditors And Debtors'

'History Is A Battle Between Creditors And Debtors'

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UNIDENTIFIED PERSON: In the paths of the wicked are snares and pitfalls, but those who would preserve their life stay far from them. The rich rule over the poor, and the borrower is slave to the lender.


Hello, and welcome to PLANET MONEY. I'm Robert Smith.


And I'm Caitlin Kenney. Today is Friday, February 24, and that was a reading from Proverbs Chapter 22 you heard at the top.

SMITH: Yes. The borrower is slave to the lender. Well, today on the podcast, we're going to talk about how the borrower can get out from under the thumb of the lender - how an entire country can get out of debt.

KENNEY: You love this topic, Robert. Here around the office, you've been talking about 50 ways to leave your lender.

SMITH: You can forgive the loan, Joan. You can print more money, honey.

KENNEY: You can increase the GDP, Lee.

SMITH: Or you can just default, Walt. And it turns out when you look through history, you don't actually need all 50 ways to leave your lender. Four will do - four options for a country in debt. We will take you through those four after the Indicator with - well, let me do it this way. Time to indicate, Jake.

JACOB GOLDSTEIN, BYLINE: That's not a good rhyme (laughter).

SMITH: (Laughter) OK. Do the Indicator, Jacob Goldstein.

GOLDSTEIN: Today's PLANET MONEY Indicator - 5.6. It would take 5.6 months to sell all of the newly built homes on the market as of January. This is according to a report on new home sales that the government released today. And this is actually - sort of shockingly, this is the kind of Indicator you see in a normal housing market. In a normal housing market, you would expect months of supply to be a bit lower than six months, which is where it is right now.

SMITH: Yeah, and we've been talking about this indicator for a long time because this indicates supply and demand. The more months it would take to move through the excess supply means that prices will stay low, people will be able to sell their homes - all of this. But in the worst of the crisis, there was almost, like, a year's worth of supply or something like that.

GOLDSTEIN: Yeah, there was this huge glut. There was this big imbalance between supply and demand. And what this Indicator now tells us - this 5.6 months of supply - it tells us in the market for newly built homes, supply and demand - they're back in balance. So that is, you know, basically a good thing. Now, there is one big caveat here. It's balanced at a very, very low level in absolute terms. It doesn't mean people are rushing out and buying newly built homes again. It doesn't mean we should expect the construction industry to start hiring again. It just means that lots of those homes that got built during the bubble and sat empty for a long time - those are finally being sold. So yes, the market for newly built homes - it does feel more stable now. This glut is over. But it's stable in this sort of hibernation state, just kind of waiting for demand to come back.

SMITH: Well, you know, we'll take it. Thanks, Jacob.


SMITH: This week, we were all watching this ongoing financial saga in Greece, and they've made a deal to have some of their debt forgiven by their creditors. And the amazing thing about this deal is that it took so long - two years. It was so difficult to come up with something that seemed fairly obvious to everyone - Greece was never going to pay that money back.

KENNEY: And this realization that a lot of countries and people are going through - that the loans that they've taken out are too much, the debt needs to be reduced - I mean, this is coming up everywhere these days. We've heard in the last few weeks about deals banks are making with homeowners who owe more than their homes are worth. And even when we talk about the United States and China, we always talk about how complicated the relationship is because we owe China so much money, and China is worried we're not going to be able to pay it back.

SMITH: This is not only a hard issue to grapple with these days. But for thousands of years, this has been one of the big dilemmas of money. How do you deal with debt? Today on the podcast, we're going to take a historical trip through the world of debt and show you when it comes right down to it, there are just four ways that a country can deal with debt, four ways that have worked fairly well through history, except for one thing - each one of these ways is getting harder and harder to pull off.

KENNEY: Our guide for our trip through debt history is Philip Coggan. He writes the Buttonwood column for The Economist, and he's author of the book "Paper Promises: Debt, Money, and the New World Order."

PHILIP COGGAN: History is a battle between creditors and debtors. And every so often, these two clash, there's a crisis, and the whole system is remade. We had a crisis in the 1930s, in the 1970s, and we've got another one now.

SMITH: So Coggan - in his book, he starts at the very beginning of the written record of money - thousands of years ago in ancient Sumeria.

KENNEY: And remember this was before paper money, before even coins were invented.

SMITH: Yeah, but the earliest records we have of any sort of monetary transaction is about debt. Thousands of years ago, people would lend each other grain or silver, and they would mark down who owed what to whom. And they would actually charge interest, which is kind of fascinating. But just like now, debt in ancient cultures would spin wildly out of control. There would be a few bad crop harvests and all of a sudden, a large part of your society was in hock. People would be thrown into jail; they'd be conscripted into slavery. And everybody owes each other so much money that society would sort of grind to a halt almost. They wouldn't be able to be as productive as they were. So Coggan says if you look back - let's say to the Middle East a couple thousand years ago - the earliest form of dealing with too much debt was simple forgiveness.

COGGAN: The great tradition in history was the jubilee. Plenty of people might have heard the word Jubilee and - but where I'm from the queen is having a diamond jubilee - that's 60 years as queen - this year. But in Jewish custom, a jubilee was a period of which all debts were forgiven. And it happened every 50 years or so. And the idea was that if the debt had lasted that long, then the best thing was to get rid of it. And you could start again with a clean slate. And it's interesting that we've had these crises about every 40 years or so in the last century, so maybe something about the 50-year period was quite right.

SMITH: So if a jubilee worked thousands of years ago - if you could forgive all the debts and - you know what? - the world kept on spinning; governments kept standing...

KENNEY: People kept lending and borrowing.

SMITH: Yeah. Why not do it now? Well, Coggan says that the sweet, simple days of the jubilee are over.

COGGAN: It usually happened within a society. So these were much less complex economic societies, OK? It was usually the merchants who had picked up the credit from individual people who hadn't paid yet - a butcher or whatever - or the farmer hadn't paid the supplier or whatever it was - and you could forgive those debts relatively simply. Now, we're talking about banking systems, which are hugely interconnected. We're talking about America borrowing from China, Greece borrowing from Germany. You're talking about very complex relationships within societies with, you know, the rich having credit and the poor having debts. So it's more difficult to sort these issues out.

KENNEY: And think about all the different kinds of creditors we have now - banks, hedge funds, private investors, pension funds. Think about how hard it was for lenders to forgive part of Greece's debt this week. We talked to this one guy about the negotiations, and he said you couldn't find a room big enough to hold all the people who lent money to Greece.

SMITH: So let's set aside debt escape number one - forgiveness - and let's move to something a little more tricky. Back in those jubilee days, the governments had all the money, and the debts were usually owed by people. But as the monetary system came into being, governments themselves - kings and queens - started to go into debt.

COGGAN: They'd be limited by the amount of gold and silver they had, but their sort of reach would exceed their grasp. They'd want to make war, and they would declare war without thinking where the money would come from. And then, of course, they'd run out of money.

SMITH: So we started to see royalty desperate for more money. And who were they going to borrow it from? They borrowed it from the people they ruled over - the new banking class, the new merchant class.

KENNEY: But remember the kings and queens themselves were still in charge. They minted the coins oftentimes with their own faces on them. And since they controlled the printing of the money, they came up with another more tricky way to get out of debt. They would simply manipulate the money supply - change the actual coins themselves.

COGGAN: Historically, we had most money based on precious metals. So you were expected to pay back in the same precious metal - gold or silver. And that was a way of ensuring you didn't cheat. Now, monarchs would cheat sometimes by altering the metallic content of the coins. Henry VIII - the man with six wives in Britain - he was known as Old Coppernose because if you rubbed the coins - silver coins - for a little while, then the copper would show up underneath, and you would see that it was a bit of a fake coin.

KENNEY: We have another name for this now - debasing the money supply. It's called inflation. Everything costs more because the money is worth less.

SMITH: And think about how this helps people who are in debt. So if I borrow $5 from you, Caitlin, to buy a sandwich for lunch, let's say, now I am in your debt for $5. And if I pay you back tomorrow, that $5 is worth about the same amount. You could still buy a turkey sandwich with that.

KENNEY: But if you wait 10 years to pay me back and there's inflation, then that $5 isn't going to get me as much. Maybe it'll get me a Diet Coke, but I certainly won't be able to get a sandwich with it in 10 years.

SMITH: And you know, it's funny because we always talk about inflation like it's a bad thing. And if you saved money, inflation is a bad thing. It eats into your savings. But if you owe money, inflation's awesome. Inflation is your friend. So why can't governments just inflate their way out of the problem of debt? Why can't they increase their money supply and then pay back, you know, relatively worthless dollars? Well, Philip Coggan says this is actually difficult to pull off successfully these days because if lenders suspect that you might try and print money to get your way out of debt, that you might debase your currency, that you might create all this inflation, if lenders suspect that - then guess what - they're going to charge you a lot more interest for your loans.

COGGAN: You can be surprised in the short term by that. But if you think that's coming, you'll say, well, hold on. Let's say I think inflation's going to be 10 percent. I'm going to charge at least 12 percent interest rate to compensate me for the loss in value of the money. Now, you can keep that going for a while. The trouble is then you're starting to make people lose faith in the value of this piece of paper that they're carrying around. So if you push that too far and you get hyperinflation rather than modest inflation - like they did in Germany in the 1920s, like they did in Zimbabwe in the recent decade - then the whole system breaks down. People don't want - shops don't want to accept the money. And so that's the difficulty. You'd have just as big an economic crash - only caused by very high inflation.

SMITH: I love the idea that this requires a sense of surprise. But when you think about it, when monarchs 1,000 years ago were debasing their currency, it was secret in a way. Or when you're talking about some of the inflation regimes that have happened, those happened suddenly where no one was prepared. All of a sudden, inflation was going up. And you know, it worked out over the long run. But you know, it's getting harder and harder to pull these kind of tricks under modern economies.

COGGAN: Yeah, central banks have regular meetings. They report the minutes. They make statements. They - one or other member of the Federal Open Market Committee seems to give a speech every other day, right? And they're all telling you what they're supposed to be doing. So it's very difficult for anybody to be surprised about it.

SMITH: There's a theme here. The world is getting so complex - there is so much information out there that a lot of these old ideas - they don't work anymore. Forgiveness requires teams of lawyers. Inflation? You could spot that coming a mile away.

KENNEY: But there is another way - a preferred way for countries to get out of debt - sort of like a golden ticket. This way, nobody gets hurt. But it's incredibly hard to pull off. Number three - good old-fashioned economic growth. You want your country to get out of debt? You grow - you increase your GDP, bring in more taxes and, voila, your debt becomes easier to pay off.

SMITH: Coggan says there are a few famous instances where this worked brilliantly.

COGGAN: Britain had a very high debt to GDP ratio after the Napoleonic Wars in the early-19th century. And for 100 years, Britain was pretty much the dominant economy in the world, and it grew, and it balanced its budget pretty much every year. And eventually, that debt came down. America and other countries after the Second World War, they had very high debts relative to GDP. They grew, and eventually, the debt came down.

KENNEY: There are clear economic advantages to winning a war. In the case of America, its new world dominance in the 1950s led to this massive economic growth.

SMITH: Plus, population was booming, and there was all this pent-up consumer demand. When soldiers came home from the war, you know, they wanted to buy stuff - they wanted to buy homes; they wanted to buy appliances.

KENNEY: Sounds like a great way to get out of debt, right?

SMITH: Yeah.

KENNEY: And that's why countries who are in debt always want to talk about how their plan is to grow.

SMITH: Yeah, they're always saying, oh, no, no, no, no. We have this under control because we're going to grow at 4, 5, 6, 7 percent a year. What's the problem? And as crazy as it seems, this is even the plan for Greece right now. We saw that in the bailout plan approved this week. Yeah, I mean, they got some of their debt forgiven. A lot of the debt is forgiven of Greece, but the real, big part of this plan is that they are counting on Greece's economy booming again in a couple of years. Eventually, they'll take in more taxes, and that big old debt looks smaller and smaller and smaller. That's the plan.

KENNEY: It's a lovely dream.

SMITH: It is.

KENNEY: Really, it is. But Coggan says it almost never happens.

COGGAN: The growth outlook for much of the developed world is not as good as it has been in the past. Growth is essentially a function of two things. You either have more workers or you make them productive. When we came out of the Second World War, we had the baby boom, and the population the last 50 years of the 20th century grew faster in the world than it'd ever done in history. Now, in the developed world, which has most of the debt, population growth is slowing. In America, you're doing a bit better. But in Europe, sometimes - in some countries like Italy, the population will actually be lower in 2050 than it is today. And the number of young people in work is falling relative to the number of old people in retirement. It's very difficult to grow your economy very fast if you have this huge burden of people who aren't working, which means higher taxes and everything else on top of you. Now with fewer workers than before, all the burden falls on productivity to improve the economy. And productivity generally is of 1 to 2 percent a year. It's quite difficult to get it more than that. So if you've got fewer workers and productivity growth of 1 to 2 percent a year, you're not going to grow your way out of debt to 400 percent of GDP.

KENNEY: The other problem, too, is that these countries that are so indebted right now - there's such for - there's such harsh austerity being forced on them - so much cutbacks. And that is exactly the environment that people fear will hurt growth the most.

COGGAN: Indeed. Greece has had two years of terrible falls in GDP. Spain is seeing its economy fall. Ireland has been through about a fifth fall in its economic activity. So it is very difficult to grow your way out of debt. But it's an extremely tricky problem because, essentially, we have spent beyond our means.

SMITH: OK, Caitlin, so we have three possible solutions to debt - all difficult to pull off in the modern world. But remember we did promise a fourth solution - a solution so timeless - so timeless - that its word is on the lips of everyone these days. It is default.

COGGAN: When governments got in too deep in the middle ages, they just changed the rules. They put their creditors in prison, or they - the French would occasionally execute a few creditors, which, of course, encouraged the others. If you - the idea that lending to governments is risk-free is a very modern idea. Quite the reverse. If your debtor is a person who can change the laws and indeed can put you in prison, that is extremely risky. Governments throughout history have defaulted on their debt. Philip II, who's the man who was king of Spain and tried to invade Britain in the days of the Spanish Armada, he defaulted on his debt four times. And this was a man who was getting all the silver and gold that Latin America could produce at the time. So those kind of monarchs - forever defaulting on their debts.

SMITH: And the list continues into the modern day. There are defaults in Russia, in Argentina, in Mexico - the list goes on and on. Governments through history have fallen back on this solution probably more often than any of the other ones. They just tell the people who want the money, go screw yourselves.

KENNEY: This is the outcome that Greece is trying desperately to avoid right now.

SMITH: And it's kind of why we're in new territory with Greece because rather than take the time-honored way of dealing with debt and walking away, they're trying something new. Maybe it can be negotiated. Maybe they could have a few loans to tide them over until they grow again - basically, a combination of these other options when the thing that's staring everyone in the face is option No. 4 - default. That's what makes people afraid.

KENNEY: And all these countries in the world - Greece, the U.S., all of us who've borrowed money - Coggan argues that if things like what they're trying in Greece - if you can't work out a forgiveness deal, if you can't grow or you can't safely create inflation, default, as unpleasant and scary as it is - it's the only option that's left.

SMITH: So this may seem stupid to ask, but why doesn't everyone just wake up and smell the coffee and say, listen; this stuff is not going to get repaid; let's start over?

COGGAN: Because they have someone else to blame. So the Germans blame the Greeks for being spendthrift, and not collecting taxes, and not working hard enough and retiring too early. And the Greeks blame the Germans for being too sort of regimented and not understanding that, you know, Greek people are entitled to retire at 60 and all the rest of it. And, you know, there are issues in the past. And similarly, the Americans blame the Chinese for having too low an exchange rate and taking all the...

KENNEY: Saving all their money.

COGGAN: ...Saving all their money and taking all the jobs. And the Chinese blame the Americans for being too spendthrift and spending all their money on flat-screen TVs and not being able to afford them.

SMITH: The banks blame the homeowners for taking out too big of loans. The homeowners blame the bank.

KENNEY: The homeowners blame Wall Street for getting them into these loans.

SMITH: Yeah.

COGGAN: This is where these crises merge. We all blame each other, and it takes - it doesn't get solved overnight. It takes 5, 10 years.

SMITH: Is this taking time for people to realize that it is inevitable, or is this just the process you have to go through? This is a coping mechanism.

COGGAN: I think it's a - yes. Whatever those stages of grief are...

KENNEY: Bargaining, denial...

COGGAN: Bargaining - exactly. We're in the - it started with denial. For example, people said it wasn't a problem. Remember when Ben Bernanke said subprime loans weren't a problem; house prices wouldn't fall at the national level? That was a kind of denial. We had it in Europe with denial - there's no problem; everybody's going to repay the debt. Now we're in the bargaining bit. But we're also getting the anger bit. We're seeing riots in Greece. We're seeing strikes in Belgium. We've had strikes in Britain. And that's the really tricky bit.

That's where democracy does get threatened because people do not like putting up with pain. We're very good in democracies in sorting out how we allocate bits of a bigger pie. We're not very good at allocating the pain of dividing up a smaller pie. Who's going to suffer? Is it that people are going to lose their Social Security benefits? Is it that the people who've saved are going to see inflation erode the value of their debts? Is it that we're going to have to bail out the banks? These are all unpleasant choices that people have to make, but they are going to have to make those choices, and that's what politics and economics are going to be about for the next 10 years.


PAUL SIMON: (Singing) The problem is all inside your head, she said to me. The answer is easy if you take it logically. I'd like to help you in your struggle to be free. There must be 50 ways to leave your lover.

SMITH: As always, we want to know what you thought of today's show. You can email us planetmoney@npr.org.

KENNEY: Or you can find us on Facebook and Twitter. Also, we have an upcoming appearance coming up in New York City - Selected Shorts at Symphony Space on March 14. Get your tickets now. I'm Caitlin Kenney.

SMITH: I'm Robert Smith. Thanks for listening.


SIMON: (Singing) ...To leave your lover.

SMITH: Possible solutions to debt - all difficult to pull off in the modern world. But remember, we did promise a fourth solution, a solution so timeless - so timeless - that its word is on the lips of everyone these days. It is default.

COGGAN: Where the government's gotten too deep in the Middle Ages, they just changed the rules. They put their creditors in prison, or they - the French would occasionally execute a few creditors, which, of course, encouraged the others. If you - the idea that lending to governments is...

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