Depressions and credit

Corporate Watch
By Amelia H.C. Ylagan

Between a stretch and a yawn, a world just rising from the hunger-induced lethargy of the Great Depression of the 1930s tripped into the Second World War (WWII) when it caught megalomaniac Adolf Hitler stretching to grab Poland for Germany in September 1939. While a rudely roused Europe and Greater Asia scampered to the trenches to align with either the Allies or the Axis, the US preferred to be a neutral arms maker-supplier to its nation-friends, until December 1941, when its own Pearl Harbor was bombed by Japan.

The say the wars eased the Great Depression, levelling the troughs of economic deprivation almost literally as filling the trenches with 40 million soldiers killed in action and 20 million civilians massacred, caught in the crossfire or killed by hunger and disease in WWII. Industries lying dormant were shaken awake to hastily provide food, shelter, and clothing in great volumes for soldiers first and civilians next. Steel companies lorded over the skyrocketed demand for arms, war vehicles, and equipment. Indeed, manufacturing for the war brought many jobs and income for supplier-nations like America. But wars cannot arbitrarily be called upon for a repeat performance of what it had once done for a depression, at least not by a human-hearted nation-leader with a conscience for the human costs of a war.

Perhaps by accident of Fate, and certainly not by shrewd design, the US was in the unique situation of having options to provide options for the other countries involved in WWII. The US legislature had voted for the US not to join the League of Nations (forerunner of the United Nations), composed of countries opposing the aggressive German-Italian-Japanese (later the Axis powers) territorial wars in Europe and Asia. However, in support of the British-led opposition (later the Allied Forces), the American Neutrality Act, which banned US involvement in the brewing WWII, was amended in late 1939 to allow the sale of arms and equipment to the British side of the growing war in Europe.

The US was rebounding from the 1930s Depression at this time, and the industrial manufacturing jobs welcomed the demand for war material from Europe. Buyers had to send their ships to US ports to claim supplies, to protect US delivery ships from being attacked. Payments were originally on "cash and carry" basis, in cash currency or gold, but this badly depleted the coffers of European allies, who themselves were still recovering from the Depression. Soon credit was allowed by the US on the "Lend-Lease" program of 1941, which included loans to Britain, the USSR, China, and other Allied countries, said to have totalled $50.1 billion ($700 billion in 2007 prices). Payments were over 50 years at 2% p.a. interest.

WWII was thus mainly supported by the credit given by the US to the Allies. The loans, as is the nature of loans, expanded the capability to buy beyond the constraints of cash — and that defined positions of advantage in a war that doubled the struggle to recover from the Great Depression. The US had struck on a brilliant economic scheme to benefit both themselves and the world, and to settle the giant political problem of WWII.

Sad to say, a working philosophy of Credit may now be an idea carried too far. In the 60-some years after WWII, Credit has practically replaced Cash in transactions big and small. Let us not talk of big-time credit, loans, discounting or other uses of credit in the ordinary operations of business, because these are usually examined and processed in detail by lenders and investors. Barring an unscrupulous few who would take money from business loans for their personal use, businessmen would ordinarily nurture their credit lines to smooth irregular cash flow from operations or to invest in property and equipment that will earn returns to positively impact owner’s equity in the balance sheet.

It was, again, the Americans who created the first version of the credit card, called "Charg-it," in 1949, where a customer would effectively sign a mini-promissory note at the merchant’s, to be paid by the customer’s bank from the customer’s credit line. Credit-card companies soon emerged as intermediaries between the bank, the merchant, and the buyer, like global companies Visa, MasterCard, and JCB among others. The credit-card business has been growing fearfully fast, with worldwide purchases and cash advances on major credit cards reaching $2.2 trillion in 2008, according to CNN.

There is the specter of possibly yet another Great Depression in the tail of the current world recession caused by the US subprime mortgage meltdown. Nations are frenetically thinking of bail-outs for failed businesses, subsidies, and stimulus packages to pump-prime their economies. Eagle eyes are on the inflation figure, which is considered to be the thermometer of how the economy is coping with decreased demand due to high prices that decrease production and discourage investment. Are they too busy to watch the default rate on credit-card purchases, which tell of a coping mechanism gone awry for spoiled postwar consumers reared in the luxuries of super-capitalism?

In the US, credit-card balances have risen 75% since 1999, yet families’ real wages rose by only 4% in the same period. The savings rate has also declined relative to credit-card balances. Yet the credit-card default rate has shot up to 30% of total balances. In the $1.5-trillion US credit-card market, almost half of this is securitized and sold further to banks and intuitional investors, like the failed US subprime mortgage program was.

The Philippines has a P117.5-billion credit-card industry, with a past-due level of 14%. To see the malls, groceries, and restaurants teeming with people (despite the "crisis") would tell us that much of this is funded by the credit card, which has doubled in membership in five years. A local credit card company bewails the lack of credit discipline of young people in the call centers, close to 40% of whom have run away from their debt. Is it the fault of these young people, or the credit-card companies?

If the ready credit that the US gave to its allies in WWII had saved the world from the ravages of the Great Depression, the irony is that this enchantment with credit in all its forms and in all conceivable human activity has created this current world recession and possibly another Great Depression, if it goes unbridled. The irresponsible awarding of housing loans to subprime borrowers, and now the credit cards profligately given to many subprime accounts are clear mistakes that must be addressed by regulators and the creditors themselves.

Weird, how this recession calls to mind WWII and its trenches, and how, somehow, it feels like the world is in a deep trench it has dug for itself. Time it is for deep introspection and a resolution for more responsible credit giving and taking. The credit-led recession is one big World War that must be won.