I don't frequent Steven Keen's blog very often but I happened to have a look today to see his thoughts on the recent falls in house prices, lending and unemployment only to be immediately reminded as to why I generally keep away. In his post, Bank Profits a sign of economic sickness, not health, Keen states that:

"...banks make money by creating debt, and the amount of debt we've been enticed into taking on is the sign of a sick economy rather than a healthy one."

Fair enough: banks do make money by loaning out funds they have acquired through deposits (and some thanks to our fractional reserve fiat currency system), but to conclude from this that the economy is sick is false. This debt is private and there is nothing wrong with private debt in a healthy economy. It is the same as any trade on a free market, both parties benefit and no one loses (otherwise why would the transaction take place, right?). However, if we take a deeper analysis, to ask "why" private debt is so high - don't get me wrong, the economy is absolutely sick, but this is just another example of Keen drawing the correct conclusion from incorrect reasoning and thus coming up with harmful policy prescriptions - we would see that it is the banks' ability to lend far above the amount of currency it stores in deposits, along with various government schemes (the moral hazard of deposit guarantees; wholesale funding guarantees; or at the worst case a full bailout) that causes private debt to reach levels well above what it would be on a free market. If you were a banker staring at a transaction that has been manipulated by these factors (and there are many more!), factors that have made money 'cheap' AND you are relatively insulated from all possible negative side effects - of course you are going to expand the money supply and provide cheap loans for housing speculation. Who wouldn't?

What I am trying to say is that the only reason private debt was able to get so far out of hand is because of government meddling in the market. Credit that is unbacked by growth in real savings is then issued by the banks which gets funneled into the share market and housing speculation, two things that Keen so despises. It is when this credit expansion is reversed that we see a crisis, not when, as Keen puts it, "...both workers and capitalists suffer as bank income goes through the roof—leading to a Depression."

Rising bank income and falling worker income is merely a symptom not a cause of the crisis.

Keen finishes with:

"This is the real debt story of our economy right now. As the first chart above indicates, private debt is far higher than Government debt, even after the increase last year due to Rudd’s stimulus package. Government debt is currently 5.5% of GDP, whereas private debt—even though it has fallen slightly due to business deleveraging—is over 150% of GDP: 27 times the size of Government debt. The so-called debate that the major parties are having over the size of Government debt is an embarrassment."

This is where Keen's true colours show. By only seeing a symptom - the 'evil' bankers pushing credit - he misses the real culprit, the government who enabled this to happen in the first place and bails out the bankers. Ironically, this is the same entity that he forgives for having debt of their own and no doubt will call upon to fix the 'private debt crisis' through regulation, profit taxes, price controls and so on!

Finally, just because private debt is "27 times the size of government debt," that does not mean people correctly questioning the size of the debt are an "embarrassment." On the contrary, public debt is very different from private debt. Instead of a normal free market transaction between a creditor with a low time preference exchanging money with a high time preference debtor, the government offers to pay back the creditor through the taxpayer via taxes or inflation. Public debt is dangerous no matter how much interest the government is paying on it or how large it is: all government spending diverts resources out of the private sector towards areas determined by bureaucrats. While private debt creates wealth (aside from when the government manipulates the interest rate and other factors and leads them to err, as we see with the housing bubble), public debt merely destroys it (and crowds out the private sector in the process).

It's not the debate on government debt but Keen's dismissal of the government's debt that's the embarrassment.