The Federal Reserve recently reported that household debt as a percentage of income has fallen to its lowest level in a decade. After peaking near 135%, the measure has dropped to 108%, a level last recorded in 2003 and far below the levels in Canada and Great Britain.
Some analysts see this as a sign of great things to come. Now that consumers have shed a chunk of debt, they can boost the economy… by taking on more debt.
As a general statement that might be true, but it ignores the details of who carries less debt today than they did in 2007, and why.
It’s not as if every consumer in the U.S. paid off a little debt or gained a little income. The changes were concentrated in two age groups — 45- to 54-year-olds, and the 35 and under set.
But before you get your hopes up, all of the change was on the debt side, neither group experienced a bump in income…
Six years ago, the 45- to 54-year-olds were 39 to 48, the prime age for spending in general and for buying a big house. The fact that this group has experienced a significant decline in outstanding debt since 2007 would make sense, because these consumers were most likely to have recently purchased a trade-up home right before the Great Recession.
The aftermath of the crisis was filled with foreclosures and short sales, which hit this age group hard. While it’s not a fun way to do it, foreclosures and short sales serve to reduce debt.
I’ve not seen a study on the matter, but the few people I know who have been through these ugly processes aren’t very interested in taking on a lot more debt anytime soon. They’re very happy to sock away money and remain solvent.
As for the 35 and younger group, their overall debt level dropped the most of any age category, which tracked their falling rate of home ownership. In 2007, 37% of families where the head of household was 35 or younger had a mortgage.
By 2013, this number had fallen to 28%. While it’s true that some of these borrowers went through foreclosure or a short-sale, it’s also true that young adults today are much less likely to buy homes than they were in 2007.
So while part of the debt reduction for this young group comes from shedding mortgage debt, some of it also comes from new entrants into the age group foregoing mortgages in the first place.
At this point in their young lives, how likely are they to run out to buy a home? Again looking at those 35 and younger, in 2007 only 17% of them had student loan debt. By 2013, the figure had jumped to 41%.
At the same time, their median income had fallen from $42,000 per year to $35,200 per year. With four out of 10 people in this age category carrying student loan debt while their median income has fallen 16%, it’s hard to see how this group will be motivated to spend with abandon.
Recent news from the housing industry verifies this point.
A record low was registered in October of this year when 33% of home sales were first-time home buyers. The typical number is 40%.
It’s not that young adults don’t want homes. A report by Zillow found that among respondents age 23 to 34, 83% of renters expect to buy a home one day… just not today.
According to Lawrence Yun, Chief Economist for the National Association of Realtors: “Rising rents and repaying student loan debt make saving for a down payment more difficult, especially for young adults who’ve experienced limited job prospects and flat wage growth since entering the workforce.”
That sums it up nicely.
Before people rush out to spend on credit, they want to have some assurance that they’ll be able to pay it back. With boomers saving as best they can for retirement and millennials trying to pay off student loans with flat wages, we don’t see consumer credit shooting to the moon anytime soon.
This is just one more of those things that has the “potential” to drive our economy higher next year, but it never quite takes off.
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