Saturday, 22 October 2011

The Debt Mountain

Many economies, western as everywhere else in the world, are fighting some sort of debt crisis. It's sovereign in Europe but in US it's households and general private debt overhang. When discussing US and how the debt of households is dragging the economy down the drain, this graph, or some similar versions of it, is put forward (taken from here).

So the Great Depression hit the US economy when household debt was just about to hit triple figures as a percentage of GDP. The Great Recession started around the same ratio. Hardly a coincidence.

The Americans, and other major spenders, shouldn't be too tough on themselves because they are not the biggest debtors in the world. Nobody beats Icelandic households when it comes to debt. Today, due to the ongoing crisis, nobody even knows how much the households actually owe. The Central Bank is meant to publish quarterly figures about the debt of households and corporates but nothing has been done of that kind since September 2008. The reason they say is that the banks are still reorganising their balance sheets. Nobody knows the face value of debt in Iceland. 

Debt levels (face value) are known until September 2008 only. And given the annual figures graphed here below, nobody should be surprised that the Icelandic economy was hit by a sledgehammer.

Households's debt in Iceland, 1970 - 2007

Of course, this is certainly not helping the economy to get back on track, although most international bodies that have commented on Iceland think the majority of economic problems have been solved, at least to the extent that they shouldn't worry us too much. IMF is probably foremost amongst everybody in that group, celebrating the success it had with the Icelandic Program so much that it is even throwing a conference on it.

To be fair, IMF has made the same comment repeatedly regarding the debt overhang. Debt reorganisation must be carried forth more swiftly than it has been.

But nothing has happened. We got into this mess because we owed too much. We can't get out of this mess because we still owe too much. The Icelandic economy is shoulders deep in a debt recession that it cannot burst out of. Euro zone countries have asked private banks to allow Greece to get at least 50% debt forgiveness on its federal debt. Something similar, a widespread general debt forgiveness but not mere debt reorganisation, may well be necessary for the Icelandic economy to rebound. Desperate times call for desperate measures.

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