Should UK consumer debt be forgiven?

I was cold-called the other day by a television researcher wanting to pick my brain about a hypothetical scenario: a “drop the debt” for the UK consumer, in which all our debts were forgiven. She wanted to know whether this would be good for the economy. Like many stupid questions, this one was surprisingly deep.
She seemed to be under the impression that all consumer debt is simply a loan from banks, and such a campaign would transfer cash from banks to consumers, denting those fat-cat bank profits. I pointed out that banks do not print money: they borrow it from depositors or others, repackage it and lend it out. (This is why banks are often called “financial intermediaries”.) The most obvious result of this “drop the debt” idea would be the sudden collapse of the financial system, which was unlikely to be good news for most people.
But assume, somehow, that the banks could be kept alive. I argued that it would be hard to say much about the effects of the “drop the debt” campaign without identifying who had lent the money in the first place: domestic savers, foreign investors – who?
What I should have said, of course, is that the easiest way to arrange a “drop the debt” campaign would be to have a quick burst of 100,000 per cent inflation, wiping out the value of all debt and all savings. Most economists believe that as an economic shot in the arm, this strategy is not recommended.

The Undercover Economist: a guide

Publishing schedule: Excerpts from "The Undercover Economist" and "Dear Economist", Tim's weekly columns for the FT Magazine, are published on this blog on Saturday mornings.
More about Tim: Tim also writes editorials for the FT, presents Radio 4's More or Less and is the author of "The Undercover Economist" and "The Logic of Life".
Comment: To comment, please register with FT.com, which you can do for free here. Please also read our comments policy here.
Contact: Tim's contact address is: economist@ft.com
Time: UK time is shown on posts.
Follow: A link to the blog's RSS feeds is at the top of the page.
Follow on Twitter
FT blogs: See the full range of the FT's blogs here.