Good Debt, Bad Debt

For a while, I have been meaning to post on the subject of good debt and bad debt; and a fellow blogger's comment earlier this week gave me the opportunity to get my writing juices going. Here's an excerpt from my response:

Debt is good when you can do one of two things: 1) use the money you've borrowed to do something to improve your future income (examples: an individual going to college, a business buying more efficient machinery), or 2) spread out the cost of an asset over time to match the life of the asset (examples: house, car).

The problem is when people pile on debt that does neither of those two things, but instead is used to increase present standard of living with no regard to future decrease in standard of living on account of having to pay it back. (Of course, peoples' illusion that their house prices and stock portfolios could only go up and therefore they could keep flipping their mortgages and using their equity as a no-downside piggy bank was what caused, oh, only the worst global economic meltdown in the last 75 years.)

Compound the pain in this particular case in that federal subsidies of house (mortgage interest deduction) and car (highway construction) cause already irrational consumers to buy even more house and car than is socially optimal, with adverse consequences borne by the rest of us.

While the whole notion of "the government's budget is like my family's budget" is a little too simplistic, I do think it is correct to say that we should hold our federal government to similar standards as far as whether and when it is good to take on new debt. Optimists will say Obama's moves save us from a worse economic crisis and lay the foundation for an increased economic productivity and energy efficiency that helps us pay off the debt we're incurring to do all of this. Pessimists will say Obama's moves represent an increase in our government's "standard of living," which is to say a higher level of public expenditures with no commensurate enhancement in our ability to pay for them.

Time will tell whether we ought to have been optimistic or pessimistic about all this. And that's what we're all holding our breath about, both here in the US and around the world, and both us and generations to follow.
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