The Moral Hazard of Credit

Used properly, credit is one of the most powerful tools of capitalism. It makes it possible for individuals to purchase items that would require impractically long periods of time to buy simply by saving. If credits for mortgages weren't available, most of us would probably need decades to save enough to buy a house outright. If student loans weren't available, only the children of the very wealthy would have hope of pursuing the advanced education required to be a surgeon or an attorney. A country might manage its budget quite well, but still find itself needing far more money than it can reasonably raise in taxes, to defend itself from a hostile neighbor, or to deal with the aftermath of a natural disaster.

Borrowing can even lead to wealth for the borrower. A successful restaurant might borrow enough to open a second location and double their revenue. Under most circumstances, the house purchased on credit over thirty years has a good chance of growing in value enough to cover the interest paid on it. A student who borrows heavily to become a doctor has a much higher likely potential lifetime income than a man who finished high school but never went to college because he couldn't afford it.

So if credit's a good thing, then having more of it available is an even better thing, right?

Last month, I sold my house. I came out okay, covering my mortgage at least. I didn't sell it for enough to cover my total investment in the house once I count all the upgrades I made, but if I factor in the fact that my mortgage payments were significantly lower than rent payments would have been for an identical property, I think I at least broke even. And, I now have enough money in savings that I no longer will need to whip out my credit card any time my car needs new tires or the furnace won't start (not that I own a furnace any more, but this was the type of expense that used to catch me just at the moment when I felt like I had every bill paid and a little extra left over). I'm essentially debt free, and can now focus on actually saving money.

Back in 2008 when the economy went in the tank, I had been pretty heavily in debt. Between my car and my credit cards, I owed about as much as I earned in a year. I got to that level of debt because my debt was essentially painless. Credit cards had low minimum payments, and my particular credit card debts were all at ridiculously low interest rates. I had good credit and was forever getting offers to open new credit cards with fixed interest rates of 2.99% for balance transfers. I could carry a lot of debt and it was costing me less than $200 a month to manage it. And, I always figured I'd pay it off one day when my writing career took off!

Curiously, this plan worked. The economy tanked just as my writing revenue increased. Still, every dime I made in writing for the last couple of years has gone to either taxes, self-promotion (it's expensive travelling to a half dozen SF cons a year), or paying down debt.

But, I have to wonder: Did my access to easy credit make me less ambitious and aggressive than I might have been? I used to make a lot more money on my day job, but have twice taken paycuts to pursue positions with fewer responsibilities, and this year I voluntarily shifted from a 40 hour week to a 32 hour week to make more time for writing, though the immediate effect has been a 20% pay cut. This year, I've already made enough money from writing to cover that cut, but I might never cover the income I lost when I got off the management track at my job. I sold my first book at a time in my career where I was a well respected assistant manager and the company I worked for was on the verge of a major expansion. I almost definitely would have become a manager if I'd stuck with that path. Instead, I permanently burned bridges to that potential future income by taking a lesser position so I could have the brain power needed to focus on writing.

One of the reasons I felt confident in doing this was that I had excellent credit. I could take make less and still live comfortably because I could borrow any money I needed to make ends meet. It made sense to me at the time, but looking back I just shake my head at my foolishness. Without easy access to credit, I would have had to make tougher decisions. I tell myself that I was able to write more books because I wasn't completely swept up in managing a branch, but I meet authors all the time who have far more time consuming day jobs and still manage to crank out books. I could have made the choice to just work harder, but credit made it possible to live as if I still had my old income. On the flipside, I could have taken the pay cut at work, then started cutting my expenses far more aggressively than I did. I could have put my previous house on the market from day one and moved to less expensive digs. Or, I could have kept the house, but sought a roommate to share expenses. Instead, I paid off my car loan, which was $250 a month, with a low interest credit card, where I paid only $50 a month. That car is long since gone. That debt lingered around until this year.

It was a stupid choice. But it was an easy choice back then. It didn't require me to sacrifice or compromise in the present. The burden of my choices would fall on some future me. Well, now I am the future me, and I'd like to go back to 2001 James and give him a dope slap. I'm doing okay now, but it might have been nice to have some choices on how I spent my income the last few years. It might have taken a trip overseas with the revenue from a novel contract, for instance. Instead, I've been paying for a car I no longer own and tanks of gas long since burnt. Thanks a lot, 2001 James.

I'm relating this very personal story in hopes of making a larger point. Just as my easy access to credit kept me from having to make tough choices ten years ago, America also fell into the trap of easy credit. As individuals, Americans stopped saving money. There was no longer any need to put aside money to make a down payment on a house or car; there were lenders willing to finance every last dime, and then some. Parents no longer had to scrimp and save to put aside money for their children's education. Junior could just borrow what he needed to get a diploma. Wage growth flattened out. Employers could get more work out of employees without offering proportionally high increases in pay, and the workers didn't complain, because they could enjoy ever growing living standards thanks to easy credit. Maybe most people's raises only worked out to a few dozen dollars a month, but that's enough to finance a big screen TV.

As a people, we started increasing out standard of living in the present by pushing the cost to our future selves.

Then, of course, there's the elephant in the room. While Americans were taking advantage of credit cards, student loans, and easy mortgages, our representatives were busy giving us anything we wanted without actually having to find the revenue to pay for it. Prescription drug benefits? Two wars? Huricane clean-ups at home and abroad? Throw them onto the national credit card. The government could borrow money at the lowest interest rates in history. Why, it would be crazy not to borrow at these rates!

I got lucky. I had a wake up call on my debt just as I was finally making enough money from writing to replace some of the more reliable income I'd thrown away a decade earlier. But America, the nation, can't go out and get a second job. And I never quite got to the point where I was forced to use my credit cards to pay my credit cards, but this is essentially what the debt ceiling debate is all about. Will we borrow money in order to pay our interest on debts we already have?

Worse, I feel like the current debate is focusing on what we should have done ten years ago. Less spending? Higher taxes? We had the option to choose a decade ago. Now, I really see no choice but to embrace both. Less spending to keep us from digging our debt hole even deeper, and higher taxes to pay down the debt we've already incurred. My fear is that we'll wind up with option three: Make a few symbolic cuts and plug a couple of tax loopholes for show, then keep borrowing and let some future America deal with the problem.