The Long View of Making Ends Meet

Although loans are good in some respect, living debt free is the best way to maintain a budget. When a society relies on loans and credit cards, prices rise. We saw that in the housing industry just recently. As loans became easier and easier to get, the prices of homes rose dramatically. Basically, if you give everyone a $500,000 home loan, then the price of homes will rise to $500,000. A $500,000 30 year loan taken out today at 4% interest costs us an extra $360,000 in interest for our homes. That means in 30 years, the price of that home needs to sell at $860,000 to just ‘break even’, not counting closing costs. The same thing with cars. The longer to pay and higher the loans allow, the higher the price of the cars will go. Credit cards are the same way. The more people use credit cards for their day to day living, the higher prices can rise, especially when considering credit card minimum payments are so low. That shirt on sale is not such a good sale once we calculate the interest over time. This is a trap for us personally, and for our society. It destroys our wealth over time by creating inflation in order to pay the interest.

An excellent 47 minute video to understand how debt (aka credit) works is called Money as Debt. This video explains how the banks work, and how loans work. It’s presented so simply, it’s even a great video for our children. Here’s the link: http://video.google.com/videoplay?docid=-2550156453790090544#

Many people have also had a habit of using their home equity to refinance and pay off their credit cards. The home loan is a secured debt, meaning if a failure to pay happens the home is foreclosed. The credit cards are unsecured debt, meaning if a failure to pay happens, the company assumes the risk. It really makes no sense to move unsecured debt into secured debt. Plus, since the habit of buying things with credit cards is not broken, many people have found they need to continually transfer their debt to their home loans. This is a downward cycle that damages even the best of us.

Now what do we do to stop this inflation? Will it go away onits own? No. The banks and credit card companies are making way too much money to even consider it. Who can help us fix it? Well, lawmakers can. In the 90’s there were usury laws placed on credit card companies to insure they couldn’t price gouge. No interest rates were permitted above 10% annual interest for all loans, but home loans.

Home loans are a slightly different bird to solve. A way to decrease foreclosures is to remove the middle man doing the foreclosing, namely the Mortgage Service Provider. They collect the money for the Investor and handle foreclosures when needed. The problem is since they have no money invested in the home, they have no vested interest to negotiate with the homeowner. The home goes up for sale, at a very low amount, causing the whole neighborhood to lose equity in their homes. The more foreclosures, the more equity is lost and this is not in the best interest of the investor. About 65% of home loans have Investors who do not handle the month to month management of the loan and use the Mortgage Service Providers instead. Some states require by law only the investor can do foreclosure proceedings. Those states have significantly lower foreclosures and have not had the severe home value loses of other states.

Could we return to the gold standard? Yes, that would also help, but to be the first country to return to the gold standard would not be wise at this point. There will be a backlash, unforeseen cause and effects, which will need to be predicted and counteracted ahead of time. Much research will be required before determining an appropriate course of action in order to best protect the value of the currency.

So will these things solve it and stop this inflation robbing us? Well, not completely. As we can see in the video, the problem is quite large and well integrated into our society. As individuals can live debt free, pay cash, and help to remove the cycle we are in.  This puts us at an advantage over others who are not doing it. It’s the best way to protect our money. Just think about it. Buying that house 30 years ago for $100,000 cash, instead of the low 9% interest rates at the time, would have saved us $200,000 in interest. Not a bad chunk of change. Although most of us are not in a position to buy a home with cash, this same principle with credit cards and car loans do save us substantial money over time. Let’s take the credit cards and do the math. If we borrow $10,000 this year, and take 10 years to pay it off at 25% interest, we are actually paying $65,000 in interest payments, so those goods we bought this year costs $75,000 in the long run. Living debt free and paying cash is definitely the better way to go.