Borrowers, whether they’re the government or individuals, should focus less on potential returns and more on risk management.
People often make a distinction between “good debt” and “bad debt,” in terms of both personal finances and public spending: Good debt, according to the theory, is borrowing that pays off over time, while bad debt doesn’t. So it’s OK to finance that new car that will bring you to a better-paying job, or vote for new federal borrowing that will stimulate economic growth, but try not to take out a loan to get a fancy haircut or pay for salary increases for bureaucrats.
In fact, this logic is flawed. As long as the world is uncertain, there is no such thing as good debt or bad debt. There is only good risk management and bad risk management. It’s a crucial concept to understand as the US continues to add to its public debt, which has tripled in the last two decades to almost $36 trillion.
By way of explanation, let’s pretend it is 2010, and you are pre-approved for a $200,000 loan. Do you use it to buy a new and obscure asset that does not have a clear use case, or to pay for an education at one of the world’s most respected institutions of higher learning?
Continue reading the entire piece here at Bloomberg Opinion (paywall)
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Allison Schrager is a senior fellow at the Manhattan Institute and a contributing editor of City Journal.
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