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Debt debases property rights

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Debt is weird. You borrow something against some collateral you have and return that something, usually with interest later on. Technically speaking, debt is a displacement of money over time, allowing you to bring consumption forward. What's weird about it isn't the mechanism, but what happens with the collateral.

The collateral is something you own and by putting that up against what you're borrowing, it's not really "owned" by you anymore, but rather shared. There's a debt contract where you own the collateral if you pay back what you owe, or the lender owns the collateral if you don't. It's like Schrodinger's cat, but with property. The ownership of the collateral doesn't resolve until the debt is settled through repayment or default. And since the debt settlement is in the future, the property rights around the collateral are in an in-between, uncertain state in the present.

Now I'm not writing about possession or property rights in the legal sense. Various jurisdictions have different rules about who controls the collateral during the time of the debt. For mortgages, the borrower gets use out of the house, for pawning, the store takes possession during the duration of the loan. That's a practical question and the rules differ. When I say that debt is weird, I'm talking more about the metaphysical property right. Whose is the collateral?

It's a bit of a tangled web because both parties have some claim to it. It's not entirely owned by one party or the other during the duration of the loan, and it's that ambiguity that debases the collateral in question. Suppose, for instance, that during the duration of the loan, the collateral is exploited in some way as to reduce its value so that it no longer covers the cost of the loan. This very well may be the economically rational thing to do if the borrower plans to default.

Take for example an auto loan. The borrower can use the car as an Uber during the months it takes for the bank to repossess it to earn money while depreciating the value of the car. Similarly, a person with an underwater mortgage may use the place to host events and trash the place while not making payments.

In other words, the lack of clarity around who owns what makes for bad incentives. Of course, this is exacerbated in a fiat monetary system as debt, particularly collateralized debt, is ubiquitous. The debt printed out of nothing decreases the incentives to take care of property that ends up as collateral.

In other words, debt, especially fiat debt, debases the things society finds most valuable, particularly as the debt goes bad and default becomes imminent. Of course, there are many debts that are repaid and collateral remains pristine. But those are situations where the loan plays out as expected, that is, the collateral stays at or increases in value. When the unexpected disasters happen, particularly when it's at the macro-economic level, the mechanism of fiat debt ends up destroying way more value than simple possession.

Which brings us to the many different debt mechanisms in the Bitcoin space. The more I study it, the more I'm convinced that adding debt mechanisms is generally not a good idea. I think it's fine for two consenting parties to do a debt contract. But complicated "DeFi" solutions all end up in weird places because of the lack of possession. There usually ends up with some trusted party that abuses the collateral in their possession and we get disasters like 3AC, FTX, DCG and Celsius.

As Hoppe says, all rights are property rights. Let's not debase it in some degenerates' quest to play more financial games.

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Discussion

todmann67 1y ago

These new features will necessarily require oracles to work.

f0xr 1y ago

Tangential point, but...

"Debt is a displacement of money over time, allowing you to bring consumption forward."

I haven't seen it explained well what exactly that means. I think it's almost impossible to conceptualize given how strongly we have been trained that money=wealth when in fact money is the opposite of wealth. Wealth is the tangible things people desire, goods or services etc. Money is only valuable in it's ability to be exchanged for that real wealth. If you don't understand that, picture yourself on a shipwrecked desert island under the beating sun and ask whether you'd rather have a billion dollars in cash or one glass of warm tap water. The value of money is determined by the goods and services it can be traded for.

Taken a step further, what does having money indicate? Money functions as a ledger to keep track of who performed valuable production, and deferred the consumption. That's how you get money, by doing something valuable for someone else and being paid for it. If you cook yourself a steak and eat it, you don't pay yourself for cooking it. You didn't defer the consumption of that production, you consumed it yourself immediately, so no one is going to pay you for that. If you're completely self sufficient, you don't need money at all.

All this to say, debt brings consumption forward, but that's just part of the story. Who's consumption is brought forward? And who produced the actual wealth being consumed without benefiting from it? The common trope of "we're borrowing from our grandchildren and it's wrong" is a false and deceptive frame. The wealth transfer of debt happens immediately at it's creation, and it must be definition be a transfer of currently existing real wealth.

When a bank writes a mortgage, they create the money from thin air to do so. It's just a bookkeeping entry. The buyers of the house then use that newly created money to pay everyone who actually built their house, but are deferring the consumption of that production for later. Getting the mortgage gives the buyer money to send a false signal to the market of "see, I have all this money so it looks like I've contributed a lot of production to society and deferred the consumption, so now I'm going to cash that in and exchange the money for this real tangible wealth." Of course that's not true, if the buyer had actually contributed to society that way they'd already have the money and wouldn't need the loan.

So the buyer has pulled their consumption forward, and real wealth has been transferred from the people who actually built the house to the buyer who hasn't done anything except manage to get a mortgage.

The builders now hold newly created money instead of a house. The perception is that they can hold that money and buy their own house later. But the perverse nature of the system means that the bank created that money from thin air, but they didn't create the money to pay the interest they're charging the buyer for the privilege of using the money they didn't earn, but created with a keystroke. That's usury. Charging interest on money you don't actually have. That means more loans will have to be made to create the money for the interest payment to the bank.

But as the bank continues to create money and give it to people to buy houses, their demand for housing is now coming years earlier than if they had to actually work and save for the house. This continuously puts non-market based demand into a limited housing supply, forcing prices to inflate constantly. So the hypothetical person who builds a house today can save the say $400,000. The person who bought the house will be paying the bank back for 30 years and likely end up paying as much in interest as the original price of the house. The bank creates another $400,000 in loans to someone to create the money for that interest cost, and then pockets it in exchange for creating a few digits with a keystroke. The poor guy who saved the $400,000 can live under an overpass for 30 years, and when he finally decides to cash in and get that house he worked for all those years ago, he finds they now cost $8 million and all he can afford for $400,000 is a nice cardboard box for under the overpass.

This is without even factoring in the rampant speculation caused by having a money that's constantly getting debased relative to the supply of housing, leading to ever spiraling housing price bubbles. See China.

In the end, you can have a guy who goes out and busts his back day after day building houses, saves his money, and will never be able to save enough to buy his own house without 30 years of debt peonage. Meanwhile the banker who pressed "p" can take his usurious interest money and buy a mansion in the Hamptons and a vacation house in Florida and another in California. There's a word for someone who produces goods and services someone else consumes, while all they get is the bare necessities for survival. It's called slavery.

"Debt is pulling consumption forward. We owe it to ourselves. We're borrowing from our grandchildren and it's an outrage." All 3 different but related ideas that deceptively obscure the real wealth transfer debt based fractional reserve banking "money" facilitates.