Tuesday, May 15, 2012

There is a difference.


I think I heard on the news the other day that Obama wants to save people as much as $3000 per year by refinancing their debt.

The thing of it is, refinancing postpones the payments but does not reduce the debt. That's why it is ineffective policy.


From NaturalNews.com...

Iceland forgives mortgage debt to save its economy

by: J. D. Heyes

It's probably not a concept that most U.S. banks and lawmakers want to think about, but the fact is, Iceland's economy has grown by leaps and bounds since the government there implemented widespread debt forgiveness for many of its citizens.

There is a difference between refinance and forgiveness.

13 comments:

nanute said...

Art,
If the interest rate is lower, it will reduce the AMOUNT of debt that needs to be repaid. Having said that, I'd much prefer the debt jubilee option. Especially with regard to student loan debt.

The Arthurian said...

Nute,
Making the payments reduces the amount of debt that needs to be paid.

Details.

nanute said...

Art,
Two days later? I was beginning to think it was something I said. lol
If I have a loan of 100K at 5% over thirty years, and I refinance at 3%, won't I have reduced the amount of debt/interest that has to be repaid?

The Arthurian said...

haha...

Sure, a lower interest rate means you'll pay less interest. But then it depends on the term. If they change that 30-year loan to 50 years, the payments will be smaller but you'll probably end up paying MORE interest.

debt-slash-interest.

Q: What is "debt"? Is it the part that we borrow, or the whole amount we must repay? Principal or principal-and-interest?

I think debt is the principal only, and the interest is a service charge. Anyhow that's my assumption for the post and for when I said "Making the payments reduces the amount of debt".

Principal or principle?

nanute said...

Principle or principal? One can only be a noun. One can be a noun or an adjective. As in, my principal concern is a major pain in the ass. (Metaphorically speaking; of course.)
I see your point on the intent of the post. Still, the interest must be part of the debt. Call it a service fee or whatever you like. It still becomes a liability to be repaid. Granted, lengthening the term of repayment, might increase the amount repaid. Unless the rate of interest is low enough to absorb the added duration. Like a zero interest loan from an auto company for example. Anyway, I once had a principal who said I had no interest in learning....

Jazzbumpa said...

I'm even later. It's been a great weekend.

Anyway, IMHO, nanute has the right of it here.

The burden of debt is the requirement to repay, and that includes principle plus interest.

The trap of debt is that many (or even most) people do not think of it that way. They think of being able to afford (or not) a monthly payment. It's all about cash flow.

I think that is the biggest driver for purchasing decisions; not a wealth effect; not expectations of either future income or inflation.

As I've said before, it comes down to - if I make this payment, can I still afford to feed my cat?

That is how real people really live in the real world.

JzB

The Arthurian said...

Jazz: The burden of debt is the requirement to repay, and that includes principle plus interest.

Sure, but if you could repay NOW, you could avoid paying any more interest.

If you repay sooner, you pay less interest. If you repay later, you pay more interest. Therefore, a policy that delays the repayment of principal increases the amount of interest that will have to be paid, and so (on your definition) increases the debt. Other things (like interest rates) remaining the same.

Of course, yes, the interest rates vary. So imagine best-case, imagine interest rates drop to zero. So, no additional interest to pay. Only principal.

In that best case, you still have to pay the debt you currently owe. Refinancing cannot change that fact.

Debt forgiveness changes that fact.

nanute said...

Art: you said: Therefore, a policy that delays the repayment of principal increases the amount of interest that will have to be paid, and so (on your definition) increases the debt. Other things (like interest rates) remaining the same. In which case, there would be no point in refinancing the debt. I think default would be the best option in this scenario.
Unfortunately, Republicans in their infinite wisdom, led the push in Congress to make student loan debt virtually impossible to extinguish through bankruptcy. It is possible, but very remote. I think you'd have to be a pauper to qualify.

This is only true if interest rates remain the same. Otherwise, less debt may in fact be repaid. In fact if one could get a significantly lower rate of interest, it is possible to both pay off the debt sooner, with a lower amount of debt repayment.

Ohm (Ώ) said...

Debt jubilee on student loans I fully sympathize with. The kids had no choice but to take those loans,...to pay the nonsense fees....unless they were willing to drive cabs or flip burgers for life.

At a minimum, a kid should be off of his student debt in a bankruptcy, just like most other forms of debt.
A bad debt is a bad decision on part of both the debt taker and the debt giver.


But in the context of mortgage debt, better to conceptualize as some type of "Mark to Market" -- that is, the Gov mandates that Institutions mark their mortgage assets to their say (market price - 10%) using case schiller index or something, and book the loss in their profit and bonus computations. Then, if they writedown the debtor's outstanding to something higher than this (market price - 10%), they can write back the difference as profit in the year that the mod was done.

["Debt forgiveness" could mean the Gov providing subsidy for bad judgement to an underwater mortgagee or when s/he simply has simply not the ability ability to pay. So using this term is a non starter and not a good idea.]

The Arthurian said...

Ohm you key on a point where I differ from everybody else: "Debt jubilee on student loans I fully sympathize with. The kids had no choice... But... "Debt forgiveness" could mean the Gov providing subsidy for bad judgement..."

You (and everybody, I think) evaluate the various situations and judge some debtors more worthy than others of forgiveness.

While that is no doubt true, I look at things differently. The general level of debt has been increasing for decades, because of bad judgment, yes -- but not so much among borrowers or lenders as among policymakers.

Policy encouraged lending and policy encouraged borrowing. Policy continues to do so today, despite all that has happened.

The problem is not that so-and-so borrowed too much. The problem is that policy makes it happen.

Ohm (Ώ) said...

Art,

Policy has encouraged it, facilitated it...all true. Policy should change,..is also true. I have argued it here:
http://economiccircuit.blogspot.com/2010/12/debt-by-sodium.html

and here:
http://economiccircuit.blogspot.com/2010/11/helping-housing-market-better-approach.html

-
But blanket forgiveness to all,...is that not going to be yet another encouragement? I mean, end of the day, those that took the debt, did so eventually out of their own free will?
Now shielding them - and all categories of them - does it not drive the message that Gov policy, is some sort of God, to which 'ye shall submit, and ye that submiteth, shall be saved'? Is that a great society,...of meek lambs tended to by the Govt?

Ohm (Ώ) said...

Please read:
Is that a great, robust society,...of meek lambs tended to by the Govt?...To THIS Extent?

The Arthurian said...

:)

"But blanket forgiveness to all,...is that not going to be yet another encouragement?"

Depends what you want to do. If you want to let the languor linger, forgive not.

If you want economic vigor, forgive. Take thy bill, sit down quickly, and write half.

There is a second part to this fix, of course. As you indicate, we cannot simply allow it to serve as another encouragement. Our policies must no longer encourage accumulation of debt. They must instead encourage faster repayment of private debt.