Friday, October 03, 2008

Paging Dr. Anderson

I just heard this on NPR: "If people can't buy stuff on credit, the economy comes to a halt." By buying on credit they meant buying consumer items with a credit card and paying it off over time rather than at the end of the month.

Mormons (some of them, at least), and other economically smart people know that in general you should in fact NOT buy things on credit, unless it is an item that helps you make more money (like a car, or an education). Question: what would happen if all of the sudden, everyone became very responsible with their money and did not buy unnecessary things on credit. Would the economy come to a halt? Warren- help me.


randy said...

At first I thought of our mission doctor when I read the title of the post.

Was the context of the quotation really regarding consumer credit (credit cards)?? The problems with a credit crisis that I've heard have all been related to mortgages (the only consumer thing) and banks and businesses.

Nick said...

The quotation was in the context of consumer credit. They were talking about how the banks unwillingness to lend to each other trickles down to individual banks being able to lend to consumers (indirectly through car dealerships, bestbuys, etc.)- so I guess not credit cards exactly, but the larger consumer items that are usually bought on an installment plan.

dan said...

I'm no economist, but as I recall from econ 110 (yeah Jim Kearl), credit or lending and relending increases the money supply. Now, as I understand things the money supply effects inflation as well as signalling to the economy whether to grow. Problem is, sometimes it grows into a bubble.

What would happen if everyone was responsible? My understanding is that the economy would have to restructure itself. It would be painful as things readjust. How much it readjusts would depend on whether we buy nothing on credit anymore, or simply buy education, cars, homes and start buisnesses on credit. I would think that in this "Mormon" credit world the economy would function, but probably with a lower GDP as people would not spend as much because they'd be too busy saving. Furthermore I would think that saving would be less lucritive because the economy would not be as big (everyone else is too busy saving instead of spending). I suppose in that sense we profit from the foolish--at least until we have to bail them out.

Then agian, I could be completely wrong and if we limited consumer credit we'd end up richer because we wouldn't have to bail people out as much. Yet I wonder if that's the case. It was homes that was the biggie so we'd have to strictly limit home purchases to those that people could resonably pay off even if their home price decreases (in case of a bubble). Personally, I wonder if it woudln't be better to change our culture so that we don't buy homes on credit. Property prices would fall instantly and be more affordable, but then we'd end up with the money supply problem. The market should readjust, but I don't think it'd be without consequence. Perhaps home quality would suffer as well, or perhaps it would simply mean that peole would move every decade or so as they go from starter homes up to a bigger home as their family grows. Demand for homes would be less in that scenario, but perhaps it would eventually grow at the normal rate--just several decades behind what it would otherwise be.

Warren said...

If spending dropped because people didnt go into as much debt, GDP would decrease relative to what it otherwise would be. I don't know how big credit spending is so I have no idea how big of a drop it would be.

But with greater savings you can have greater investment, which could lead to more growth in the long term.

Buying on credit can be viewed as giving up consumption in the future for more consumption today. So the question is when do you want to spend? I think lower credit spending would just transfer wealth to our future selves from our present selves, instead of the other way around.

But as my professor would say "there's something wrong with everything in macro" and this is a macro question.