Wednesday, July 30, 2008

'Credit crunch'

decent comment from GU article on the "credit crunch" euphemism by edevershed

"Take my housemate Leo as an example. Leo's so in debt, that he's being charged loads in interest every month on his debts. But he can't pay his debts, so the amount of interest is getting compounded, and he finds the whole thing too baffling and frightening to do anything about it. Recently, he's been summoned to court for non-payment of debts, but the fact remains they can't squeeze blood out of a stone.

But by spending way beyond his means for several years, Leo was a useful and productive member of society, in that he sustained economic growth, and by being in debt, he became an asset to the financial insitutions that had given him credit.

I'll run that past you again. In our somewhat insane financial system, it's normal practice to call a loan an asset.. That means, if I'm owed £1000 by you, or £5 per month, then I can describe what I'm owed as part of my assets, or income.

The problem is that that practice continues, in many cases whether or not the interest on the loan is being paid. If the interest isn't being paid, then the notional size of the loan is increased, and since it counts as an asset, the company who the money's owed to looks as if it's balancing its books.

And this can go on quite a while, - until someone comes along, and points out that actually, this notional asset isn't worth much, as even if you take Leo to court, he still can't pay his debts, and so suddenly, the asset, becomes a bad debt, and has its value instantaneously reversed. Suddenly, the company/bank is worth much less than it appeared to be. Its value tumbles."


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