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Private debt is money owed by individual people, households, and businesses. It excludes money owed by governments, which is known as public debt. There are many different kinds of private debt, including mortgages, credit cards, student loans, and commercial loans. While taking on debt may be unavoidable in some situations, mishandling debt obligations can lead to dire financial consequences, including bankruptcy and foreclosure.
Most forms of private debt work as a guarantee against future income. If a person doesn't have the money to buy a home or open a business outright, he may be able to secure a loan or credit card that is repaid over time with regular income. If all goes well, he or she will be able to make timely payments to the point where the debt is fully repaid, thereby fully owning the initial purchase. Unfortunately, a variety of factors can intercede to interrupt this ideally smooth repayment process.
One factor that must be considered when opting to accept any form of debt is interest. This is a fee tacked on to most loans or credit lines, which allows the process to be profitable for the lender. Without interest, a bank would only be able to lend out what is paid out, without any money generated for expansion, investment, or operations. For the borrower, however, interest can enormously increase the total amount of private debt that must be repaid. Since many loans also rely on variable interest rates, debtors can see payments skyrocket beyond the point of manageability should the interest rate jump.
Though the use of private debt can be financially dangerous, it can offer opportunities that would otherwise be impossible. Students in many regions have access to college loans that pay for tuition and living expenses, which may be the only means of paying for advanced education for some. Ideally, students can use their education to find a lucrative career that allows them to repay their debt. Unfortunately, if the market changes, demand for a certain type of career plummets, or unemployment rises, a former student may be unable to make payments on his or her debt, leading to the potential for financial ruin.
While private debt can stimulate new businesses, pay for education, or finance the purchase of the home, it is a serious risk that requires careful consideration. Consumers must be fully aware of the obligation they undertake by shouldering debt; it is an obligation that may last years, if not decades. Some financial experts warn of a growing consumer and commercial debt problem in developed countries, where inflation and cost of living increases have lead many individuals to rely more and more on private debt. Many economists also decry governmental regulations on consumer debt, suggesting that they are often all but written by lobbyists for the debt industry, and may be designed to obscure important facts that might influence consumers.
Remember at the turn of the century when the general consensus among economists was that higher levels of consumer debt was a sign of a healthy economy? It would seem we're still emerging from a period in which it was established that too much private debt can be a very bad thing.