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By Root 1112 0

doesn’t seem at all realistic (even without taking into consideration complicating issues related to energy or the environment, which we’ll be doing later on). It seems prudent to have a strategy that will work even if these next debt doublings don’t occur. The story of economic growth that has shaped the past four decades, including many of our expectations about “how the economy works,” was heavily dependent on and financed with debt. Without the explosive growth in debt seen over the past four decades, economic growth would have been a lot smaller than we experienced (and enjoyed). Our experience of “normal” economic conditions was actually an unsustainable illusion, albeit a very pleasant one.

To understand how debt distorts the picture of economic growth and health, let’s reduce the entire economy to a small island occupied by just a single family earning $50,000 per year (“Family A”). Right next to this island nation is a second island nation, also consisting of a single family earning $50,000 (“Family B”). At our first yearly “GDP snapshot” of these two families, we find that the GDP of each island is $50,000; they’re exactly equal. But the next year, using a combination of auto loans, credit card balances, student loans, and a home equity line of credit (HELOC), Family B goes out and borrows an additional $50,000, which it uses to purchase various enjoyable goods and services for itself. Family B lives it up. But Family A, representing the first island nation, prudently plunks their year’s $50,000 earnings into savings and lives a frugal life, eating homegrown food and making do with last year’s clothing, toys, and motor vehicles.

At our second “GDP snapshot” the next year, we see that Family A has not increased its earnings and is still “suffering from” a GDP of only $50,000. Therefore, despite their diligent savings, our conventional economic standards indicate that this family has suffered through a horrible year of zero percent economic growth (ugh, no growth!). In contrast, Family B—the family that now effectively owes every penny of last year’s income to its debtors—has seemingly undergone an exciting and dramatic 100 percent growth in their economy (yay, growth!) and their island is now sporting a GDP of $100,000. Investors the world over cheer the fast growth and preferentially purchase the currency and debt of Family B’s more exciting island nation, eschewing the “anemic growth” of Family A’s island nation, mired in the deplorable condition of zero percent growth.

But let’s be absolutely clear here: The underlying reality is that each family still has exactly the same $50,000 of national income. They’re economically identical, except that one nation, Family B, is now saddled with debt equal to 100 percent of its income, while the other, Family A, isn’t. And ironically enough, Family B is being lauded, while Family A isn’t.

As it happens, the conventional way of measuring GDP (which is how all developed nations happen to measure it) doesn’t take into account the impact of debt—it completely ignores the accumulation of most forms of debt as if they do not matter. However, as I hope that our island nation example has made clear, debt is an absolutely critical component of the story, and excluding it paints a quite misleading picture.

This would become more obvious if we were to turn off the credit spigot and observe the fortunes of Family B immediately slamming into reverse. Where Family A would still be plodding along enjoying the very same $50,000 of income year after year, Family B, now deprived of credit, would find its income stream shredded by the amount of its interest payments. Too much prosperity in one period for Family B will be followed by too little in the next.

Debt-to-GDP for the high-borrowing family assures that they’ll be living under the strain of paying down those loans for years to come, which will weigh down their disposable income and future standard of living. To state this as a general rule, time spent living beyond one’s means necessitates a future period of living