Why The Stimulus Won't Work: The Marginal Productivity of Debt

This chart should give you pause about stimulating the US economy with more debt.  What it says is that for every Dollar of new debt (private or public) we have had diminishing returns.  According to Antal Fekete, if you take this chart further back, we used to get $3 of GDP for every $1 of debt.  Sometime in the late '60s, the line crossed below $1, meaning every new Dollar of debt returned less than that in GDP.  Antal thinks we actual went negative in 2006, but regardless of whether his data is the same as this chart, we are approaching that point. 

This is truly a point of no return.  This means every new $1 borrowed reduces GDP.  We borrow ourselves into collapse.  If we are at that point, the $2T expected deficit in 2009 means we drop GDP by some percent of $2T - if for example we lose $1 of GDP for each $1 of new debt, the deficit itself would cause a $2T in GDP, or a 14% drop, on top of the already declining GDP - collectively a level of destruction not seen since the Great Depression.  I guess it is fortunate that the line would not immediately go to a negative $1 of GDP for each new $1 of debt; but as the curent Federal deficit is unprecedented in peacetime, we might find the fall below the trendline to be serious. As usual, Karl Denninger gives an entertaining and informative rant on this topic. 

It is also worth noting that PPI was down 3.5% year over year - the largest drop since 1950.  Deflation is here. Bernanke has tried to reflate with around $9T of easy credit, but it is like pushing a wet noodle.  All around him credit is being destroyed faster than the central bank can reflate.  We are living the Austrian School argument, that after a credit bubble bursts, you cannot reflate it.  Deflation is inevitable. And so it has arrived. 

Comments

[cribrange]

Yelnick,

You state 'This means every new $1 borrowed reduces GDP'.

However the chart illustrates currently that for every increase in debt by one dollar, the GDP increases by roughly 20 cents. Implying that GDP continues to rise, however at a reduced rate.

What am I missing?

Cribrange

[yelnick]

Cibrange - we haven't hit the point of no return yet. Trending the chart, it points to 2015 when the marginal productivity goes negative.

[cribrange]

Ah ok, fair enough. Thanks.

[aperiani coop]

just because there is 'a trend' doesnt mean we have to stay on it....! we could drop like in 1985 to 1986 and go below zero long before the 'trend' shows in 2015........also how does the calculation of GDP releate to massive credit creation...i.e. does that credit get counted towards 'product' because of our crazy accounting rules....?

[Kaleberg]

It looks like the big change was back in the 1980s when we went into debt to pay for a tax cut instead of boondoggles for the middle class and poor. Get rid of that silly diagonal line and it almost leaps out of the chart. It matters what you borrow for.

[Term papers]

This chart should give me pause about stimulating the US economy with more debt. Your Article is very well written cant wait to read more.