Hello,
I am sorry to insist, but I think this is a very important issue.
Jim wrote (after a paragraph of mine):
>3) The limit to borrow, in our opinion the binding constraint in the last
>resort, is set by the ratio of debts to *income*, because debts must be
>serviced by cash. The household sector *as a whole* cannot realize more
>than a fraction of its assets without causing the market to crash. The
>limit to borrow is not set by the ratio of debt to income plus capital
>gains; such a limit would be extremely vulnerable to a fall in prices.
>Moreover, we actually estimated the ratio of saving, inclusive of capital
>gains (i.e. change in net worth), relative to income inclusive of capital
>gains. Such a ratio plunged from 44.4% in 1999 to *MINUS* 17.4% in 2000,
>and it remained strongly negative in the first quarter of 2001.
can't assets be used as collateral, so that the debt/asset ratio is
relevant?
The point is that the debt/asset ratio ( 'assets as collateral') is a
misleading indicator of the capacity to borrow *of the private sector as a
whole*. From other micro-perspectives ( whatever the unit of analysis: a
household alone, a firm, even a subindustry) the debt / asset ratio may be
valid (to an extent)^(footnote): the household cannot service its mortgage?
Too bad, the bank appropriates the asset (say the house), puts it for sell
in the market and re-establishes its financial position. But some one else
*had to buy the house*, be it with cash, or another credit provided that in
this case the new owner can indeed service the debt in cash...
But for the private sector as a whole the story is entirely different. The
debt of the private sector *as a whole* has to be serviced with cash,
whatever the collateral. Unless that 'someone else' is ready to purchase the
collateral (private sector assets) and pay with cash... In our
(macroeconomic) story, the only 'someone(s) else(s)' available could be
either the public sector or the external sector. ( And I do not think that
we will see in the near future a case of massive
'nationalizations' --appropriation of private sector assets by the state--,
nor a case of massive 'transnationalizations' --appropriation of US private
sector assets by foreigners).
I am glad that Jim acknowledges (remembers) that Wynne is saying this in
previous works. Of course he did. And yet, debt as a proportion of income
has kept increasing. In walking this path, it is making the recovery of the
financial imbalances of the US economy even more painful, for the US and the
rest of the world.
best regards,
Alex
^(footnote) As to the debt/asset ratio there would be much more to say, but
perhaps the best could be to recommend Doug Henwood's book Wall Street,
chapter (4 or 5, I think; I do not have the book at hand), where he
discusses the theoretical aspects of financial markets, and questions the
famous Modigliani-Miller theorem. I leave Doug himself to summarize it, if
he is around. My reading is that, also at a firm level it does matter the
financial structure, and that there is a limit as to how much a firm can
borrow (increase debt).
