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Debt is the necessary devil that keeps capitalism going

Debt is the necessary devil that keeps capitalism going < News < Bet On Markets

While it’s not wrong to pile advice upon advice on to consumers to avoid debt, sometimes the advice is chokingly too routine and unnecessary.

Economic literacy is key in this instance, and individuals are well aware at all times of the consequences of debt servicing.

In fact, it’s debt that drives the economies of most countries. Individual or private spending accounts for over 60 percent of total spending in our economy.

Most spending no doubt comes in the form of debt. Take it further. Each borrowed rand is used in the production process, which ultimately maintains a job or two. And to retire that debt also maintains a job or two. Responsible borrowing to a very large extent is what drives the economy.

Countries borrow for various purposes, mostly to provide goods and services to the people. Companies borrow for various reasons, and basic economic theory attests to the fact that companies prefer a regime of low borrowing costs so that they can expand productive capacity.

Debt is the main form of finance used worldwide. In a capitalist society debt has been greatly normalised, with financial institutions being in the business of marketing debt.

Goods and services provided by various industries are also produced at the back of inventories that have to be at a certain level. And it is this attraction that indirectly coerces individuals to have an appetite for debt.

It is therefore not wrong to have an appetite for debt.

The contention that buying food on credit is a worse form of debt appetite, while correct, almost invariably apportions the blame to individuals, as though the institutions that are encouraging the debt are not to blame.

Banks are in the business of lending money and without an appetite for debt they might as well close down. And if that’s the case, then we might as well have no interest rates because there won’t be any opportunity costs.

Such a scenario would defeat the existence of economic theory, and even more so monetary economics. How will we calculate inflation in an environment that has no need to borrow money?

While this is an extreme position, it becomes clear that nations have developed an affinity for debt as the necessary lubricant to oil their economies.

Financial institutions have in-built risk management programmes to monitor defaulting clients. These early-warning signs continue to be used to balance the borrowing environment.

Yes, it is correct to warn individuals that debt and the accumulation thereof is the determinant, significantly so, of the interest rate environment. And therefore any irresponsible debt accumulation has the potential to fuel prices and consequentially force interest rates up.

But what is not coming out in the wash is the importance of responsible borrowing, which to a very large extent drives the economy.

So when we encourage individuals to retire their debt, we should also inform them of the intricate but important aspect of debt in the economy. Some of us have studied, using debt as the only form of finance. And thereafter debt was and is still used effectively to accumulate assets.

So while debt may sound like an evil thing, we are a capitalist society which has bestowed some sanity on the appetite for debt.

By Mandla Maleka

Mandla Maleka is the chief economist at Eskom Treasury. The views expressed are solely those of the author and not necessarily those of Eskom Treasury.

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