Ten years ago, Princeton economist Atif Mian and his research partner, University of Chicago economist Amir Sufi, published House of Debt: How They (and You) Caused the Great Recession, and How We Can Prevent It from Happening Again. The book argued, convincingly and with powerful data, that severe recessions — including the 2008 Great Recession — are caused by a huge buildup of consumer debt, followed by a drop in household spending that exacerbates job losses and economic slowdowns.
Mian and Sufi posited that the focus on only bailing out banks and financial institutions, rather than addressing the household debt problem through forgiving or restructuring debt, hindered economic recovery in 2008. House of Debt, which former U.S. Treasury Secretary Larry Summers called 2014’s most important economics book, challenged traditional views on the causes and remedies of the financial crisis and was widely hailed as groundbreaking.
In the decade since, Mian has zoomed out to examine how “our addiction to debt” has thrust the world economy into crisis. In a recent article for the International Monetary Fund’s Finance & Development magazine, Mian writes that our “dependence on credit to boost demand imperils the world economy.” As both consumers and governments around the world continue excessive borrowing, income inequality widens. That leads to more borrowing, and the vicious cycle continues.
“The way we are living is not normal,” Mian tells Analyst News in an extensive interview. “We have become so addicted to debt that we are borrowing more than two times as much as we used to, for the same dollar of income that the economy is generating.”
Analyst News spoke to Mian about his recent work and how it builds upon the research in House of Debt, the importance of balance in an economic system, and potential policy measures to reverse the “debt supercycle” that has become our new norm.
This conversation has been edited for length and clarity.
It’s been 10 years since your landmark book, House of Debt, came out. In it, you argued that severe recessions are caused by a huge buildup of consumer debt, which leads to a drop in household spending. Can you break down why consumer debt is so dangerous?
What happens before a recession, the rise of debt, is as important to understand what happens after a recession. This is the economy’s way of generating demand. Some people are borrowing from others, who are lending because they don’t want to spend that money themselves. They want to hold on to that money in the form of wealth, so they put that money in the banks and the banks are essentially lending on their behalf.
That money is going from lenders to borrowers, and then borrowers are the ones who are spending it by buying stuff — which is what actually moves the economy. The problem occurs if this process is too fast, if the volume of lending is too high. You can’t sustain a very high level of debt growth, because ultimately whoever is borrowing has to pay it back. You may come to a point where the lenders start demanding the money back.
“The way we are living is not normal. We have become so addicted to debt that we are borrowing more than two times as much as we used to, for the same dollar of income that the economy is generating.”
That’s the starting point of recessions. Spending that was happening because of this credit creation is no longer going into the economy. The money those individuals would have spent, they are now being forced to pay back to the lenders. When you demand your interest and principal back from them, they can only do that by cutting back further on their spending.
None of that would be a problem if the lenders were going to spend that money back into the economy. Say I borrow from Bill Gates to buy a car. When I give that money back to Bill Gates, he already has enough cars in the world. He’s not going to buy an extra car. That’s not going to stimulate the economy at all.
We argued strongly that in these kinds of downturns, you really want to share the risk by being lenient toward the borrowers, because that helps them to spend more into the economy.
What would economic policies that promote risk sharing and leniency look like?
The obvious one would be some notion of debt forgiveness, but you don’t have to go that far.
Think of the moratorium on foreclosures that happened during the pandemic — that was a great thing. During the 2008 recession, one of our biggest criticisms of the Obama administration was that they did not put a moratorium on foreclosures. People’s house values were going down, they did not have money, they were getting laid off, they could not pay back their mortgages. Close to 4 million homeowners were forced into bankruptcy and their houses were foreclosed upon. There is no way an economy can instantaneously absorb 4 million new homes coming on the market. Who’s going to buy those homes? Nobody. That will only add to the glut of housing in the short term, which will reduce prices even more and make a bad situation even worse.
Then there’s a bankruptcy arrangement: You can take up to a certain value of my wages, but you can’t garnish my wages forever. Europe has draconian debt prison laws where if I borrow a lot then you will garnish my wages as long as I’m unable to pay my debt with interest; those are very destructive and created a lot of trouble for countries like Greece, which literally went into a great depression because of the Europeans extracting too much from them. What happened to Greece post-2008 is the classic example of a country that suffered because of a lack of risk sharing.
Another way is by reducing the implicit burden of debt by reducing interest payments — for example, by lowering interest rates. You can write financial contracts such that the interest rate automatically goes down, or such that principal plus interest payments are automatically diminished by, say, 10% and 20% based on how weak the economy is. The technical term for this would be state-contingent contracts, and we can add more risk sharing features that create flexibility.
And this leniency is in the best interest of all parties, not just those in debt.
Exactly. When I talk about risk sharing, it’s not this idea that I as an individual make a mistake and people should bail me out. When we are in collective trouble as a nation, we should collectively think of ways that we can help the indebted, the borrowers, the weaker sections of the economy.
It’s not a moral argument. Even if you don’t care about philanthropy, I’m making a macroeconomic argument. I’m not saying to help the poor because it’s good to help the poor. Like that cliche that a rising tide lifts all boats — it’s literally true in these circumstances. It’s insights like that that make me passionate about the field of economics. It makes us understand those insights, that our collective good can be in helping those in need in those times of distress.
You argued that debt forgiveness, rather than bank bailouts, is what would boost the economy. Where do bank bailouts fit into the equation?
The full argument is not as much “don’t do bank bailouts in those circumstances,” it’s that just bailing out the bank is not adding sufficient demand into the economy. What you need to work on is the ultimate borrower. It’s not enough that if I’m not able to pay back a loan, that you just help the bank in the middle. To solve the problem fully, you have to actually help me, the ultimate borrower, as well. That was the missing piece in the 2008 recession.
There is obviously the Wall Street-versus-Main Street view of the world, where Bernie Sanders says the government is just bailing out the rich people. That’s true. But we’re saying that even if you want to bail out the banks for whatever reason, you must not forget the indebted class that is really drowning in debt — and hurting the entire economy.
The way the financial markets and banking industry are structured is very fragile by design. A bank has a very thin layer of equity, which is the piece that can absorb any potential losses on loans they make. For every dollar of equity, they typically borrow like $20 on top of that.
Think of yourself as a bank. What you have is $5 of your own money, what I’m calling equity here, and $95 that you’ve borrowed. That $95 plus $5 — those are the $100 you’ve lent to people like myself. Even if I default on only five cents out of the dollar that I’ve borrowed – just a 5% loss — that actually is enough to completely wipe you out, because you only have $5 of your own equity in it.
That’s what I mean by fragility. The financial sector is designed in a way that it cannot even withstand a 5% loss on its overall books. What ends up happening is that even if an economy has a little bit of trouble — literally 3% or 4% of the loans are in trouble — that puts incredible pressure on banks. They are so fragile that they can take the entire economy down with them once they get into trouble.
At that point, it’s like the banks are holding a gun to our heads: Save us or we all go down. But there is a deeper question: Why did you allow the banks to be built as fragile as they are?
In the intervening 10 years, how have you been able to expound on your initial argument? What is your prognosis?
When the next big crisis came, the COVID crisis, it was to the credit of the Trump administration that they did respond much better. There was flexibility shown in terms of assistance provided to the people. The government stepped in and provided relief to the people. Banks were not allowed to foreclose on homes because everyone understood there’s a pandemic, so many people will not be able to pay anything because they don’t have a job. This time, the government really stepped in and protected people who suffered the most — the ones with weak balance sheets, less savings — and it really helped the economy in the long run. The recovery post-COVID recession was way faster and much stronger compared to the sluggish recovery after the 2008 recession. The economy actually never went back to the old trend then; this time, the U.S. economy did go back.
“If your economy is going into these crises repeatedly and seems to be addicted to debt, we have to ask what’s going on.”
But everything we’ve spoken about has focused on this kind of boom-bust cycle; what I’ve been doing over the last few years is asking a deeper question, which is why are we in this situation in the first place? Think of the good times before a recession. Why did we have to rely on debt to generate demand? Why do we need to borrow in the first place? You can talk about being lenient on consumers in times of collective trouble. But why do we get ourselves into that situation in the first place? If your economy is going into these crises repeatedly and seems to be addicted to debt, we have to ask what’s going on.
Let’s dig into this question. Tell us about what you call the “debt supercycle” and what you’ve learned about this entrenched system of debt.
We’ve been having these crises like the 2008 global crisis, but at the 10,000-foot level, let’s ignore all of that. There is a bigger cycle in the background. We don’t come out of these crises by relying less on debt; we seem to be coming out of each crisis by relying even more on debt than before. It’s like if I’m [unwell] and decide to take more of the drug that got me in trouble in the first place.
Let’s say I borrow $100,000 from you, build a business, generate $200,000. I give you back your $100,000 and now I have $100,000 of profit. This is what we want. This is not bad debt. This is productive debt. When entrepreneurial people borrow to invest in good ideas, to create dry cleaning services and manufacturing plants, they can make even more money. We should be facilitating lending and borrowing, if debt is being used to generate new businesses.
That’s the Econ 101 description of when debt is productive and when it’s useful for the economy. But something seems to be very off. If you were using $1 of debt to generate $1 of income in the year 1980, today, you’re borrowing twice as much — and even more, collectively — to generate the same dollar of debt.
I’m talking about tens of trillions of dollars of additional debt. What is happening? What is this additional debt doing? The answer, if you look at the data, is that none of that additional debt is being used to start new businesses. We are still investing as much as we were in 1980. But all of this additional debt is being borrowed for consumption purposes — not for investment, but for consumption.
Why is this a problem? Let’s go back to Econ 101. Instead of me borrowing $100,000 from you and generating $100,000 in profit, I’ve been borrowing from you and just eating it up. We have nothing to show for it. And you don’t give me that money for free; you demand an interest from me. Ask yourself the following question: If you are lending $100,000 to me, and you’re demanding some return on that, and I’m not doing anything with that money, how is that sustainable? The only way I can pay you back that money tomorrow is if I take my existing salary and I cut down my consumption, my expenditure.
This is the ultimate truth of debt. It’s basic common sense; I’m not making any subtle arguments here. If people borrow for pure consumption purposes, it only makes them poorer in the long run. Because the only way you can pay back the initial debt with interest is by becoming poorer — that is, by reducing my consumption from what it would have been if I had not borrowed.
It seems like an unwinnable battle.
It is. Now, given that all of the debt essentially from 1980 onwards has been borrowed for pure consumption purposes, it has to be the case that the borrowing class is becoming poorer in that sense that they have to cut back on their spending. That’s the only way they can pay back the lending class, which is of course the richer class.
Given the scale of this borrowing, it’s not possible to do that. They cannot cut back their spending so much that they can all pay back the returns that the rich would have been expecting in 1980, 1990s. So something else has been happening as a result of that. Which is that interest rates have been falling from the 1980s onwards to a point when 2008 hit, and all of us remember that time. Interest rates went all the way down to zero and stayed there, until very recently.
This is the more subtle, technical argument. People were borrowing these incredible amounts of dollars; they cannot afford to pay that money back. And so the system adjusts for that inability to pay back the debt, by reducing the interest rate on debt. This is what I refer to as the indebted demand force. We were the first to highlight this very important force that’s been operating in the global economy, that has been pushing interest rates down.
Once the economy becomes addicted to debt, to generate demand and spending from the borrowing class, it keeps pushing the world to an environment of lower and lower interest rates — up to a point where it cannot do that anymore because interest rates are stuck at zero. They cannot go below zero, and when you reach that environment, the only place left for this economy to go is for the government to step in and start borrowing and spending. That’s what we’ve seen in the world at large.
At some point, the consumer borrows so much they cannot borrow anymore. We kind of reached that place in like 2008, 2009. If you look at the economy after that, it is the government that has been borrowing and spending. People talk about the U.S. government debt that’s been rising many trillions of dollars higher. And it has to, because the economy is relying on debt to boost spending.
But why do we need all this debt?
We argue that the deeper problem is extreme and rising inequality. The reason individuals, and now governments, have to borrow these incredible sums of money is because there is no such thing as net debt. It’s always zero. Who is on the other side? For the world to be borrowing these trillions of dollars of debt, there has to be someone who’s lending these trillions of dollars of debt. It’s the super rich, who are the ones lending more and more. That’s why debt is rising. Why are they lending more and more and again? Because they’re making more and more money, but they cannot consume more.
If you were earning $10 million in 1980, today you are earning close to double that amount at a time when the rest of the people are still on average earning the same in today’s dollars. That’s the scale of rising inequality.
Let’s say you’re earning $10 million a year — you can buy the best house, car, vacations, all of that. Now imagine I make you richer. You will not know what to do with that money because you already have everything. So what you’ll try to do is generate more wealth: put that money in some bank or hedge fund, and search for demand. That is what the financial sector does. It tries to lend that money back to someone who will be willing to spend that.
The only way this economy can try to survive is if it finds someone to take that money and spend it, and the only way you can do that in the modern economy is through debt.
And that borrowing is going to be unproductive, as you said. But why can’t it go toward generating business rather than consumption?
The reason this has not added more to productive capacity is because if the ownership of productive assets is already very concentrated — because you own the productive sector, that’s why you’re rich — and if the economy is already finding it hard to generate new demand, you would not want to.
You’re basically asking, why are you not using the $10 million to, say, start a new auto company or to expand your existing auto plants? Well, where are you going to find the customers? Because the returns to that new investment will also go to you, but you’re not going to buy an extra car because you already have all the cars you need. The concentration of productive assets in the hands of a few in the first place itself becomes a limitation to why you cannot use that debt for productive purposes.
That can further exacerbate as the economy grows. So in some of the recent work, we have shown that this rising concentration can lead to very low interest rates and that lowering of interest rates actually makes the productive sector even more concentrated. You can borrow money so cheap, why are you not borrowing and investing? Well, because you have so much power now, so you focus on monopolizing the sectors rather than expanding them.
When the initial problem is extreme inequality, the only way you can lend it out the new savings put back into the banking sector is for unproductive purposes. That’s exactly what has happened over the last 30, 40 years. It would have been better if this money could have been used for productive purposes. But that has not happened. And everything I’ve just described is a global phenomenon.
What scares you about it? If we continue as we are globally, what’s the ultimate consequence?
I think we’re already living in the times of the ultimate consequence. If you conceptually walked through the full set of arguments, I’m saying [you accumulate] very high levels of debt and you reach this world of zero interest rates and so on. We are already there — we’re 10 years into it. We had the COVID shock, there was some inflation, governments borrowing [more and more]. The other major thing that’s starting to happen is all of these military conflicts, which only makes governments borrow even more. This can potentially raise interest rates.
The ultimate problem here is really one of this imbalance and inequality. Technically, you can continue to run the world like this. We’re talking about an ecosystem, and in ecosystems, it would be a very extreme event to say, everyone dies and the world [ends]. We are already living in the consequences of this extreme, imbalanced world that can only kind of move forward by binging on debt. But that’s no way to live.
People think there is a crisis in the future. What they are not realizing is that they are living in a crisis. You’re expecting something worse to happen. You need a little bit more self-realization to say this is not normal.
“We are already living in the consequences of this extreme, imbalanced world that can only kind of move forward by binging on debt. But that’s no way to live.”
Remember, when people are relying on debt for consumption, they are becoming poorer in the long run. And if the reason for all this debt is this extreme inequality, what else is going to happen? Well, this small minority is going to become more and more powerful. And they start using that influence politically, of course, and the politics start to become more and more dysfunctional. It becomes more polarized; you start to see more and more that this notion of a common good is not being represented in the political system.
About 10 years ago, someone who has been to the highest avenues of power told me our democracy has been hacked. Now it’s very obvious. This is one of the consequences of a system being highly imbalanced, where economic power has just gotten concentrated in the very few hands. If you need to use debt to push the system forward, you can always do that. But it starts to have these political implications.
There is a sense of hopelessness among young people that wasn’t there in the ’60s, ’70s, ’80s. The younger generations born after World War II were very optimistic about the future. Take the U.S. median wage and ask yourself: How many years of savings would it take to buy your first home, assuming you’re not fortunate enough that your parents already have a home to give you, like half the population? It’s many times what it would have taken in the ’70s. The reason is this debt-based economy that we have addicted ourselves to: High levels of debt means your interest rates have to go down to zero, and one implication is that the value of assets like houses and land continues to rise.
But look at the irony of this — it’s rising inequality that’s making interest rates fall by addicting the economy to debt. It’s making rich people who already have assets even richer because that’s how financial markets work. And there’s no way you can get out of that, without many different forms of tax policy and so on.
It’s not like there is danger on the horizon. We’re already living in a world with this disease and it is afflicting the next generations. We need to solve it today.
Rebalancing and reversing the debt supercycle calls for structural changes so that growth is more equitable. What would these structural changes look like?
In the economy, we say there’s a supply side and the demand side. To rebalance the economy to get out of this addiction to debt, we need to think of changes both on the supply side and the demand side.
The investment ideas need to be worked on on the supply side of the economy to make the growth process more equitable. One is we need a lot more investment and regulation that would make the returns to the economy more equitable.
That requires a very different way of organizing ourselves and regulating ourselves. There are many challenges, like the rise of AI, robots, technology. There are very serious issues of how you cannot just completely run a free market world and just hope all of those issues will settle properly on their own. Economics is a serious science, and we know that cannot happen.
One way of structural change that we need is investing more through the public sector, through public investments — something that the U.S. used to do in the ’60s and ’50s but doesn’t do much now.
Reducing payroll taxes, aggressive forms of taxation, and making the taxation system more progressive are ideas that are working on the demand side of the economy. Whoever wins the lottery — on who gets new technology, monopoly power and so on — will become very rich. But you have to have a much more reasonable system of taxation. The taxation system needs to be more progressive, but on the right dimension. We actually need to reduce taxes for the middle and lower middle class — for example, payroll taxes — and we need to raise taxes at the very top end of the distribution. A wealth tax at the top end, the 1% or less of the population, would very much help.
For a country like the U.S., the demand side structural changes are more important, relatively. But if you were to start talking about Africa or developing countries, the supply side issues are really first order there.
As inequality is growing, what is the viability of potential structural changes given the power concentration?
The reason good change does not happen is because the structure of the status quo is such that the incentives of people in power are all aligned to resist what the system and society actually need.
This is nothing new. When societies are collectively stuck in a bad situation, it is often primarily because of this particular problem — what you might call the political economy problem. If you were to propose those solutions, you will face active resistance.
The other reality is that all of us have agency in terms of communicating ideas, in terms of convincing people to change. That’s how we have voting and political parties. So I don’t want to be completely pessimistic. I think it’s good that we have some notion of democracy, as bad as it might be, and there is still the possibility that we can engage in a societal dialogue.
While our selfish individual interests are for self-preservation and preservation of the status quo, there is a bigger force always in play as well: Nature also has a corrective mechanism. I’m reverting to philosophy here, as we don’t fully understand all of this. But there is a greater sense of depression, a sense of anger. There is something behind that.
Think of political shifts in the U.S. — I could not have imagined someone like Trump coming up to power on the right, or on the left someone like Bernie Sanders gaining traction. But you can see people are more willing to take extremes. When the system itself is not working for people at large, there is a sense of frustration that becomes heightened, and people start to listen more to what were earlier, unthinkable ideas.
Those ideas can be crazy and make it even worse. But sometimes those unthinkable ideas may be the right places to go. I’m not holding my breath, but nature may force our hand.
