Detroit Bankruptcy: Who Pays Anyway?

As a credit professional, I think that the fact that the City of Detroit is seeking bankruptcy protection is big news.

People and businesses often get into financial trouble because of tough personal circumstances, a rough economy or a large customer who does not pay can cause financial trouble. The result is that debts get out of control.

Do governments have the same issue, and if they do is it to the same extent? Why do countries rich in natural resources, skilled workers and little problem with war and strife – like Canada – find itself collectively (provincially and federally), over 1 trillion dollars in debt? Why didn’t the City of Detroit, once so rich in industry and people, manage its resources better?

Government debt is not much different than any debt: “deficit spending” uses borrowed money (through the sale of bonds to investors like you and me) that governments will have to pay back in the future.

The answer lies in two areas: the politicians with short-term thinking, and the voters who re-elect them do not understand the impact of excessive government debt.

Looking for some support for this theory? A TED forum reader posed the question “who are all the countries in the world in debt to?” Let’s eavesdrop on the responses to find out…

  • “Countries are in debt to the IMF”
  • “…why can’t [two countries owing money to each other] mutually forgive debt, effectively reducing debt between each other making things better?”
  • “Money is manufactured out of thin air. [The manufacturers] could forgive the debt and it would cost them nothing…”
  • “…the government can always sell more bonds to pay you back…”

And that is just a few of the answers! It is clear to me that (a) professionals do not monitor or respond to the questions, and (b) people (even those “TEDsters”, supposedly more engaged in the issues) do not understand government debt.

By the way, the answer to the question “who are nations in debt to” is: Other People!

Debt, whether sovereign, personal or commercial is owed, ultimately, to an individual (investors, bondholders, taxpayers, etc). Those holding government debt, the “bondholders”, are individuals, other governments, churches, pension funds (who hold people’s retirement money), etc. They are people who lend their money to governments who expect some interest in return and would miss the money if they did not get it back.

Very likely most people have not even thought about the question, and politicians would very likely prefer to keep it that way.

The short answer: when governments overspend, they either have to cut back or eventually they default on payments, and in either case, those least able to afford it bear the cost. When individuals overspend, company owners pay the price, and that impacts individuals too – employees, creditors of the company, and so on.

Ultimately, it is easy to see reneging on debts as a victimless crime. But the real cost of unpaid debt is borne by those who invest in business, or who loan money to governments. If those people stop lending or investing, everyone will suffer.

Advertisements

Leave a Reply

Fill in your details below or click an icon to log in:

WordPress.com Logo

You are commenting using your WordPress.com account. Log Out / Change )

Twitter picture

You are commenting using your Twitter account. Log Out / Change )

Facebook photo

You are commenting using your Facebook account. Log Out / Change )

Google+ photo

You are commenting using your Google+ account. Log Out / Change )

Connecting to %s

%d bloggers like this: