Is a Massive Default the Solution to Current Economic Events?

Current economic events have everyone on the edge of their chair. National debt. Unemployment. Tight credit. Housing in the tank.

So is the solution just a massive default on debt, as suggested by a respected writer for the Wall Street Journal and Marketwatch?

In a recent article for Marketwatch, entitled “Massive default is best way to fix the economy“, Brett Arends offers an idea: a great Chapter 11 bankruptcy. In a nutshell, Arends postulates that if everyone who couldn’t afford their mortgage walked away from it, walked away from their creidt cards and filed for Chapter 11, the resulting destruction of debt would clear the balance sheet of the nation, “reset” the economy and allow for the re-creation of jobs and resumption of spending.

Arends says that “…mass Chapter 11 is, by far, the least obnoxious solution to our problems. That’s because the real cause of our economic slump isn’t too much government or too little government…It’s the debt, stupid.” We owe more than any nation, ever, in history, and in many cases, much of this debt will never be repaid anyway.

Arends goes on to point out that corporations deal with this situation all the time — if they take on an unsustainable amount of debt, they simply file for bankruptcy and their debtors get little if any of the money owed them by the company. The shareholders and officers of the company don’t sell their houses, yachts and cars to pay off the corporation’s debt. The debt holders are forced by the bankruptcy court to write off their debt. In some cases, the lenders may get stock, making them shareholders. But the end result is that the company’s balance sheet is repaired and the company can resume doing business again.

Struggling homeowners and consumers, overwhelmed with paying off their debts can’t take trips, they can’t buy a new car or can’t visit a restaurant. They can’t sell their house to move to take a new job in a different area.

“…mass Chapter 11 is, by far, the least obnoxious solution to our problems. That’s because the real cause of our economic slump isn’t too much government or too little government…It’s the debt, stupid.”

Arends cautions against moralizing over defaulting on debt. Banks and other lenders were just as guilty over the last decade or two in lending to people who had no prayer of repaying their loans and mortgages. All caution went to the winds and greed drove banks to lend to unqualified home buyers or send credit card offers to 3 year olds or the family dog. He says it’s time that the banks face up to their losses. Besides, not all people will walk away from their debt. Those that can pay it off probably will, and retain a decent credit rating in return.

So can the government help by raising taxes and cutting spending, ie., balance its own budget? Arends says no; in the dire current economic event such actions would be catastrophic, and in fact there’s ample evidence for that: the Great Depression. Government borrowing? Arends points out that this is just a transfer of private debt to public debt. Inflation – paying back the debt with cheaper and cheaper dollars? While this can work to an extent, it is just another way of defaulting on the debt and hurts little old senior citizens’ (read: us baby boomers in a few years) savings.

What I don’t understand is that someone on the “other side” of the debt is counting on being repaid: a member of a credit union whose savings are lent out to others to buy a car or for a second mortgage, for example — what happens to their savings?. Or, an investor who has bought a mortgage issued by a sloppy, greedy bank to a uncreditworthy borrower, and who depends on the income from that mortgage for their retirement income.

What happens when that debt is abandoned?

What do you think? Is it time we all face up to the facts? That many in the US are just the walking dead, financially, but just don’t know it or are in denial? Will a massive default allow us to put the zombie loans to rest and get on with life?

Comments

  1. Randy Green says:

    I think his point was just – how do you solve the problem now? We can finger-point all we want as to who got us here, but it won’t solve the issue at hand.

    Most of this debt – unaffordable and underwater mortgages, credit card debt, etc. isn’t going to be paid off by a lot of these folks, especially if they can’t get their jobs back in any reasonable time frame.

    That means these loans are “zombie loans” – they are dead in the water, but still being carried on the banks’ balance sheets. Arends idea was to just own up to that fact and get the pain over with, and move on.

    He didn’t say we’d all like it – it just may be necessary.

  2. What an idiot! Yes it’s the debt now, but it was the irresponsible government, and greedy bankers and bottom feeding money changers that got us here. Now we just say f it! F it! Were not paying your ass back. Who is going to pay for that??????? The taxpayers!!! You know that the bankers are going to call on their bought and paid for congressmen/women and senators to bail their asses out? There we go with the irresponsible government again. Lets tighten our belts and pay our bills like responsible people, not blow them off like deadbeats. Oh, do I seem a bit twisted up
    about this??? Hey, vote your pocketbook, Perry will be good for Texas!
    I’ll take anything over what we have in there now!!!! The problem is that we need to change all of them so if we have the massive default, the bankers take the hit. I never thought we should have had that stimulus anyway! I agree with let it fall, but that’s not going to happen until the politicians can’t keep it propped up any longer!
    Ooooommmmmmmmmmmmmmmm!

  3. Tom Moseley says:

    Bush and Obama should have let the market alone. GM would have failed. Wall Street banks would have collapsed. And then everyone would have learned a valuable lesson that would last. This attitude of too big to fail also implies too small to save. And that’s just wrong.

  4. If you believe what you read here, you better be stocking in canned goods and ammunition, because those will be the only ones to survive!
    H

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