Tuesday, January 4, 2011

Too much borrowing

Mr. Carney, the governor of The Bank of Canada, seems concerned about the high level of consumer debt being carried by the Canadian people. And so he should be. Expansion of the Canadian economy is directly related to expansion of Canadians’ debt.

The way money is created in Canada is directly related to Canadian banks lending money to the Canadian people. A healthy economy creates money through the mechanism of bank loans. When we borrow $20,000 to buy a car, the money supply grows by $20,000. When we pay off our bank loan, the money supply shrinks by $20,000. If we stop borrowing, the Canadian economy stops growing. If the citizens’ debt level is too high, it means someone else will have to do the borrowing that causes economic growth; someone other than Canadian consumers. If consumers are overburdened with debt, who will borrow?

Will the resource industry step up to the plate and borrow more money? Will oil companies or mining companies finance their expansion by borrowing from Canadian banks? Is this where future growth will come from?

What about manufacturing companies. Will they heat up our economy by expanding their operations with borrowed money? If you were a banker, how much money would you lend to GM, Ford and Chrysler?

What about the retail sector? How much wisdom is there in lending money to yet another developer to build yet another box store shopping mall?

This is the governor of the Bank of Canada’s dilemma: who will finance Canada’s future economic expansion now that consumers have borrowed too much?

Classical Keynesian economic theory has an answer: the government should be borrowing now. Under this theory, when the economy is healthy and expanding, consumers and industry borrow and expand the money supply. And when the economy is shrinking, the government borrows – they call it deficit financing. In this way, according to the theory, economic expansions would be numerous and long: economic slow-downs would be infrequent and short. It’s time for the government to expand our infrastructure with borrowed money. It’s time to regenerate those make-work projects from the 1970s. But, somehow, governments seem reluctant to do so. Politicians seem more concerned about controlling deficits that creating them. Politicians are out of step with the system’s financial needs.

No wonder Mr. Carney is concerned. He’s caught between over-burdened consumers who can’t borrow and reluctant politicians who won’t borrow.

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Contact Ken directly at ken@castlemoore.com.

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