Here is a summary of Dr Lacy Hunt's work on the Diminishing Return of the GDP Generating Capacity of Global Debt.


The Production Function is dependent upon technology and the three factors of production:

  1. Land,
  2. Labor and
  3. Capital.
  • The production function states that if you overuse one of the three factors of production, output will initially rise and will then flatten out and then turn down.
  • In other words, there is a non-linear relationship between debt and economic activity.
  • The simple-minded solution that if a $3 trillion program doesn’t work you try a $6 trillion program… that doesn’t work when diminishing returns takes effect.
  • The evidence here is increasingly dire.

Latest Evidence of Diminishing Returns:

  • The good news. If you want to call it that, is the US is the best in town.
  • Meaning we are not as far along the diminishing returns path as the rest of the world.

Irving Fisher (1934), in perhaps his most important piece said,

“When economies are highly indebted, economies slow.”

He never went on to prove his statement… Lacy proved it for us by looking at the data in this next chart.

Velocity and GDP Generating Capacity of Debt Chart

  • In 1916 the velocity of money was 1.7 and generated just under 0.60 cents of GDP for every dollar of new debt.
  • 20 years later, the velocity of money is down 15.3% and GDP was 0.47 cents for every dollar of new debt. The marginal productivity of additional debt was down 16.1%, just as Fisher had stated.
  • In other words, if you take on debt, you have to create an income stream to cover the increased interest cost and repayment of the debt. If you don’t do that, you don’t have extra money to pay the debt.
  • Bottom line: with increased debt, productivity slows.
  • In 1998, the velocity of money was 2.16 and the dollar of GDP per dollar of debt was 0.37 cents. 20 years later, velocity was down to 1.45 (a 32.7% drop) and just 0.28 cents of GDP for every new dollar of debt was produced, representing a decline of 24.3%.
  • So you have this Production Function. Money multiplied by velocity equals GDP. In other words, when you become extremely over-indebted, one of the consequences is the velocity of money drops and you denude the capability of the central bank.

When one of the production functions is overused, it contaminates the other functions.

Historically debt has been cyclical, averaging about 2.1% since 1949. It’s above trend during expansions and below during recessions, but look what has happened in the last three five-year intervals – further indication that diminishing returns is taking effect.

Real Per Capita GDP Growth

  • A lot of people say, you know, you talk about debt but I don’t believe it. After all we don’t have a crisis. And in fact, everybody is happy… and people are clamoring for our debt since the rest of the world rates are lower than here. And our yields are low.

The crisis is more insidious. It’s hidden.

  • What is happening is that since we became extremely over-indebted our real growth rate is falling… we are only growing 1.2% (meaning growth per person, after inflation is now just 1.2%).
  • That’s 45% less than our average annual growth rate of 1.9% from 1790-1999.

This is a crisis because it undermines the standard of living.

If you compounded your growth in your personal income by 1.9% after inflation per year vs. 1.2% per year, your income would be 15% higher. That’s what is hidden. That’s the crisis to the economy.

Debt steals from growth.

Read Lacy's full post here...






SOURCE: 05-19-19 - - "Lacy Hunt: This Is One Of The Most Important Charts In Economics"

All Originally Sourced from FULL PRESENTATION:

On My Radar: Mauldin Strategic Investment Conference 2019 (Part I – Dr. Lacy Hunt)

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