Introduction – In an economic transaction, money and credits are exchanged for goods, services, and financial assets. Unlike money, credit is often misunderstood and it can be created in thin air where words are exchanged. These transactions are driven by human nature and they create three main forces: productivity growth, short term debt cycle, and long term debt cycle.
Short term debt cycle – When a borrower receives credit, spending will increase, other people will receive more money, they will be able to obtain more credits and start spending more. Thus the economy is being driven because people are able to use credit (from thin air) to snowball their spending. When the buying power increases, the price also increases which causes inflation. Thus the central bank will raise interest rates. With higher interest rates, fewer people can afford to borrow money, so they spend less and the price will go down. This is the stage of recession. If the recession becomes too severe and inflation is longer a problem, the central bank will lower the interest rates to cause everything to pick up again. This is the short term debt cycle. A full cycle lasts generally 5 to 8 years.
Long term debt cycle – short term debt creats more income and more debt from each cycle, so it keeps going up until it crashes. Lender realized that loans become too large that it is impossible to be repaid. Even lowering the interest does not help in this stage, such as the financial crisis in 1929 and 2008. The government can cut spending, reduce debt, and redistribute wealth, but all of these would cause deflation. Therefore, the government must also print money to cause inflation which in return would offset the deflation. Depression usually takes 2 – 3 years, and reflation takes 7 – 10 years, hence the term lost decade. A long term debt cycle usually lasts about 50 to 75 years.
productivity growth – it is a linear line. It is fundamentally the factor for economy to grow.
Benc Tan 