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This morning, Karl sent me a link to a CNN/Money article that is simultaneously happy and sad:
In a sign that Americans’ spending habits are shifting, household debt fell for the first time ever, based on data going back to 1952. According to a Federal Reserve report released Thursday, consumer debt fell an annualized $30 billion, or 0.8% in the third quarter to $13.91 trillion.
Think about that for a moment. In the 56 years that records have been kept, household debt has never declined in this country. Even now, there’s evidence that the current drop may not be due to consumer choice. USA Today writes:
The decline in household debt levels is evidence of the severe credit squeeze that is occurring as banks, saddled by billions of dollars of losses in mortgage debt, have tightened lending standards and made it harder for people to get loans.
In other words, it’s not the borrowers who are cutting back, but the lenders.
Though I’m generally in favor of reduced debt, I do have some questions about these numbers. How much of this is mortgage debt? (From what I can tell, this report considers all household debt as one.) The numbers we’re given are for the entire country. What was the decline per capita? Has there been a per capita decline before?
And since our economy is largely built on leverage, what happens when household debt drops too far? Is our financial system strong enough to survive a few years of decreased spending and increased saving? (And isn’t it crazy that should even be a question?)
There’s been other evidence recently that Americans are actually tightening their belts. After years of declines, the personal savings rate surged during the second quarter of 2008. (Note, however, that the personal saving rate is an imperfect metric. Most people save via 401(k) and IRA, which are not reflected in this number. If you’re curious, you can read more about this thorny issue.)
Also, according to the Bureau of Economic Analysis, actual income and disposable income have held steady over the past couple of months, while personal consumption has dropped slightly.
I understand that numbers and reports like these are merely barometers of complex economic behavior, and that there’s a lot behind them that I don’t understand (as my past rants demonstrate). But I still have to believe that a decline in household debt and an increase in personal saving are good for this country in the long term.
At the very least, these sorts of behaviors are likely good for you and for me, especially when the rest of the United States returns to its profligate ways.
Note: It’s fascinating to watch CNN build their story about household debt. Karl says that when he submitted it to me, there was nothing there. Just a stub leading from the banner I’ve posted in this article. When I first visited, there were a couple of short sentences. Now that I’m nearly finished with the post, they’ve fleshed it out with a bit of opinion and one comment from an expert. By the time this post goes live in a few hours, it may be an actual article! That’s basically how I write a blog post.
This article is about Debt, Economics, News Thursday, 11th December 2008 (by J.D. Roth)
December 11th, 2008 at 3:11 pm
Like you stated, JD I find it both happy and sad. While I am glad that people are starting to finally see the importance of saving, whether it be in a traditional savings account or in a retirement vehicle, I find it troubling that it would take something as drastic as the change in the current economy to effect such a change. One would tend to think that in times of a flourishing economy, people would be able to save more since there is more discretionary income available, as opposed to increasing savings during times of financial uncertainty where discretionary income is significantly decreased. But, I guess sometimes people need a wake up call, and this economy appears to be it.
December 11th, 2008 at 3:35 pm
It’s good that the American People are trying to remove debt.
It’s all about how long they can sustain this and not go back to their old ways.
December 11th, 2008 at 3:36 pm
The article says the drop came from foreclosures, which remove mortgage debt from family balance sheets, so this is unfortunately not a positive shift in American behavior.
December 11th, 2008 at 4:12 pm
Aha! See, Ian, that answers one of my questions. That piece of information wasn’t in the article as late as 1pm Pacific, which was the last time I read it before setting my draft to rest. The article now also says that consumer credit went up 1.2%, which was the lowest increase since 1992.
This is what I mean by this is all so complex that it’s difficult to get handle on it all. Trying to boil it down to just one or two numbers doesn’t really work.
December 11th, 2008 at 4:26 pm
it’s sad that something has to happen for us to do well
December 11th, 2008 at 4:35 pm
Even though it will hurt at first, converting some of that debt into savings will ultimately be a good thing for everyone.
December 11th, 2008 at 5:34 pm
The economy would collapse. Since auto manufacturers sell nearly all their cars to people who are borrowing money to pay for them, they would all sell so many fewer cars that they’d go out of business. The same with people making televisions, or children’s toys, or the movie industry. Every industry that isn’t strictly “necessary” would disappear as people stopped buying their products.
This would cause all their employees to lose their jobs, and then they couldn’t afford to pay for even the “necessary” things like food and shelter, and then the people who had been growing food and building houses will go out of business, too.
Our economy absolutely depends on the fact that goods and services, even those that seem frivolous, continue to exchange hands regularly. If that stops, then the people that produce those things are no longer able to afford to keep the rest of the economy running.
If the country stops buying new cars to reduce debt and increase savings, then Detroit suffers, and a lot of people lose their jobs. Then, even the people in Detroit who weren’t working in the auto industry lose their jobs, because even the grocer was relying on auto workers to buy groceries from him, but now they can’t afford to.
It’s an incredibly complex and very tightly intertwined system, and what is beneficial for a single person to do for himself doesn’t necessarily have the same effect if *everyone* does it.
December 11th, 2008 at 6:16 pm
Not only that, but what works for one person does not necessarily work for another, or anyone else for that matter. There seems to be a trend lately of people who feel that what works for them or what they believe is what should be followed by everyone else, which is very frustrating to me and what prompted me to write If You Don’t Think Like Me, You Are An Idiot. I really think that people need to recognize and understand that there is no simple answer to any question regarding finance since each individual situation is unique in its own way and not all theories and practices can be applied in order to solve each and every problem uniformly.
December 11th, 2008 at 6:17 pm
I disagree with Tyler. If everyone adopted the saving behavior, at any given time there would always be someone who had saved up enough and would go and make the major purchase. The one big difference is that they would pay in cash.
December 11th, 2008 at 6:19 pm
Tyler,
China has had double-digit growth for the last decade (which is I believe faster than any other country’s economy has ever grown), yet has something like 50% personal savings rate. So, it’s certainly possible to have a booming economy without debt.
Regardless, just because something is beneficial to the economy, doesn’t mean that it’s good or justified. Perhaps the scenario you describe is the ‘right’ thing to happen, a payback of sorts for the unusually extravagant lifestyle every American has indulged in since around World War II - perhaps undeservedly, and perhaps at the expense of the rest of the planet.
December 11th, 2008 at 6:40 pm
either way, we haven’t seen any data on permanent behavioral shift. the increased savings rate in october was probably geared towards holiday shopping savings rather than a fundamental shift. we are going to see a near zero to negative savings rate again if anyone does the analysis post holidays. the same thing about debt reduction, which was wiping off foreclosure debts from the balance sheets. bottom line, all of this is way too early to determine what is going on. the economy and policies take time, so regardless of all the shock and awe headlines about 35 year this 20 year that, it is meaningless in the present tense. we won’t have a good sense of our optic on the situation until 12 months down the road, and we won’t realize the effects and affects of current policies for several years if not a decade down the road.
December 11th, 2008 at 6:42 pm
I was so excited when I saw that caption…until it hit me that it came from foreclosures.
What will it take for the US to realize “If I save 10% of my income a year, I will retire a millionaire.”
@Tyler, I am not disagreeing with you, but I am disagreeing with the general mindset that if we do not consume (if we save) the economy will collapse. Before we dive in I want to let you know I have a background in Economics.
Hypothetical economy:
In this economy people do not take on much debt that can be avoided. If they have any debt they do not take on more until they pay what they have off. These people save 10% of their income.
If this was dropped into the US today it would mean less money on consumption for sure - right now and in the transitional period until everyone had their debt-to-asset ratio under 1.
But then what would happen? Instead of losing wealth on credit cards, car payments, and mortgages, people would start seeing positive growth on their income as a result of interest working for them - instead of real decline.
End result? More wealth overall.
More wealth = some inflation and increased purchasing power.
We know that increased purchasing power = more purchasing = more consumption = healthier economy.
The only problem is that transitory period, but come on, it’d just weed out some of the companies that don’t deserve to exist anyway.
I’m going to call shenanigans straight up that our economies need *this* kind of spending to survive. *This* kind of spending creates a huge D/A ratio which means people are more prone to panic when things start to go a little bad.
How stable is our economy right now? Is this the best we can do? How is *this* kind of consumption really helping us?
December 11th, 2008 at 7:40 pm
This is excellent for america, now if we could only do this for the next 10 years, we would be debt free.
December 11th, 2008 at 7:45 pm
I’m not trying to argue that an economy can’t be successful and still have people saving money, or that debt is required for a successful economy. I’m just saying that to get from here to there is a difficult and far from straightforward transition. Simply having the “average American” change his or her behavior overnight, on a nationwide scale, would probably have disastrous results.
And no amount of manipulation of numbers or interest rates can create “more wealth”. Reducing the amount of interest paid to credit card companies simply moves wealth away from the people in that industry and gives it to people in different industries. It doesn’t create “more wealth”.
Our economy *does* need this kind of economy to maintain its current size. If spending goes down, the GDP goes down, there’s no magic there. Certainly we can sustain a country with healthy, happy citizens on a lower GDP, but less spending does in fact mean a smaller economy.
If people (as a whole) spend less, then they produce less, since less people are buying the goods and services they produce. Thus the amount of money they are able to save goes down, and they have less “stuff” than they would have had (but presumably more free time).
The more we produce (and therefore create income from), the more we have available to save. If we produce only what we need to live, then we can’t save anything at all, because we need to spend it all to survive. If we produce twice what we absolutely need, then we can save half of it, in theory, but not everyone can do this or production will fall right back down.
It seems, although I haven’t done the math (nor would I know exactly what math to do), that the country as a whole can only work if it consumes almost exactly the same amount as it produces. Presumably this works and still allows people to save because as some people are saving, other people are spending more than they’re producing (retired people, for example).
Like I said, I’m no expert, and I could be wrong on some of this, but simply saying “take the money away from the banking industry and give it back to everyone else” costs the banking industry as much as it helps anyone else, and doesn’t create anything new.
December 11th, 2008 at 8:45 pm
There are reasons to believe that mass frugality by Americans would hurt our economy, after all it is built on consumerism. That’s not to say we couldn’t build a post-consumerist society and economy, but the transition would be painful. Who can forget being told our patriotic duty was to spend money after 9/11. I don’t think we’ll see long term changes in people’s buying habits - unless this drags out for years and years. Our memory is short and our optimism long, worse has happened before.
December 11th, 2008 at 9:08 pm
This is Great news to hear!
December 12th, 2008 at 3:58 am
I wonder how much of this is behavioral change in American households, and how much the numbers were impacted by the first round of economic stimulus checks. Most anecdotal evidence points to people banking those checks in savings account, or using them to pay off debt, so I’m not sure if without them we see the same results. Still, it is encouraging that we have finally decided to get out of the debt trap and put a little back.
December 12th, 2008 at 4:18 am
In fact,it is a piece of good news.I think American and Chinese should learn each other on spending.Maybe it will be a perfect spending habbit.
December 12th, 2008 at 5:57 am
Anecdotal evidence based on my own experience: 11 months ago I started working on increasing my savings and reducing my debt and was able to at least stop making late payments on things and catch up. I recently made the decision that decreasing my debt load was more important in the immediate future than my long term savings (I contribute to my current 403b and am increasing my emergency savings account) so I decided to cash out an old 401k early and use it to pay off 2 credit cards. What it was earning was miserable and my credit card interest rate had gone up in the past two months. So overall, I’ve decreased my debt load and am still increasing my immediate savings though I have taken a hit on some long term savings. I wonder though if, aside from foreclosures, other people are doing this same sort of redistribution in their own budgets.
December 12th, 2008 at 5:59 am
Tyler,
If enough people change their habits all at once there will be detrimental effects in the short term. In the long term it all comes down to the difference between collecting or paying interest.
Those of us who budget and save prefer to be on the receiving end of interest. The other crowd often hasn’t thought it out to much extent, but us receivers need them.
December 12th, 2008 at 6:42 am
Another thing that is happening that is bringing down overall debt is that the credit card companies are lowering credit lines on existing cards.
I’m paying off my cards, so it was more of an amusement than anything else, but I have started getting notices that my credit card companies are lowering my credit limits. In one case they lowered it to about $20 over my current balance.
The only real damage I’m suffering is that it’s lowering my credit rating (not that I’m buying anything on credit, but it bugs me) because it lowers my ratios after I’ve been working to pay off so much debt. But I’m sure there are people who are having real issues when out of the blue the card companies cut the limits even though they’ve been paying the minimum (or more, like in my case) on time every month.
December 12th, 2008 at 6:43 am
China’s huge growth rate is from exports, not consumption. It’s the same thing as your income increasing from raises, while your spending stays fixed; the two do not have to be correlated.
(I’m not sure how consumption would fit in that model… spending is really “imports”, but you get the point)
December 12th, 2008 at 6:55 am
I’m not convinced the behavior will stick in the long run. It seems we’re very good at reacting to a crisis, but we slip back into our “old ways” once we become complacent again. For example, people don’t continue to ration once a food or water crisis is over — not in the the long term anyway. I think people who didn’t live through a crisis don’t have that same fear.
For example, people who lived through the Great Depression and the war had some long-standing frugal habits, but they wanted their children to have more than they did. Their habits didn’t last too long once the boomers took hold.
I’m not an expert, but I think this trend towards saving won’t long outlive the economic crisis. I guess it’s like economic yo-yo dieting.
December 12th, 2008 at 7:13 am
This entire article is completely true for me! I have paid over $3500 off of my credit cards in the last nine months. As a matter of fact I paid off my second credit card just this morning. It had $661 left on it.
Also for the first time in my life I have an actual savings account that is growing.
December 12th, 2008 at 9:01 am
I wrote about this issue on my blog a few months back…The media likes to scare people about debt…maybe it pulls in viewers…The way they jigger the numbers and come up with debt figures is a mathematical travesty…they take the aggregate debt and divide by the population (…?) fugetabowdit…They fail to add in retirement funds and even MMMF don’t make the grade (they are classified as investments).
That’s fantastic Ryan! Keep it up! I know the feeling. It took me few years to totally turn my financial life around, now, it’s nice to have money in the bank! And all my bills paid every month! This is the way people are supposed to live!
Did you know that something like 60% of all homes in America don’t carry a mortgage at all? !! I’ll bet you’d never hear that listening to the doom and gloomers on television!
December 12th, 2008 at 12:06 pm
I think there’s a lot to what Tyler says. Louis XIV built France’s economy on the selling and buying of luxury goods; I don’t think it would help our economy if everyone started doing the equivalent of hoarding money under their mattresses. However, if Americans increase their savings, I think it’s going to be better for them and their economy in the long run - although a lot of people took nasty hits to their 401Ks. While it’s admirable in many ways that the Chinese manage to save 50% of their income, there is much in their business practices I do NOT find admirable - China’s pollution levels are horrific, among other things. And as far as the “unusually extravagant lifestyle every American has indulged in since around World War II” for which we are now paying penance - I don’t remember getting polled on this. I know that in the 80s and 90s I was picking up wood off railroad tracks to heat my house because we couldn’t afford the oil. I don’t know THAT many people who’d describe it as “unusually extravagant”.
December 13th, 2008 at 8:30 am
I don’t care what the economists say, our country would be strongest if the middle-class were debt free, with fat savings accounts, and paying for everything with cash. This is what the Chinese have on us now–they still have a ‘pay cash’ mentality.
December 13th, 2008 at 10:49 am
Soros wrote about this credit issue in his article
“The worst market crisis in 60 years”
By George Soros
http://www.georgesoros.com/?q=worst_in_60years
“However, there is a profound difference: the current crisis marks the end of an era of credit expansion based on the dollar as the international reserve currency… The current crisis is the culmination of a super-boom that has lasted for more than 60 years…Credit expansion must now be followed by a period of contraction, because some of the new credit instruments and practices are unsound and unsustainable. ”
…
And he really goes for it in the
“The Crisis & What to Do About It”
By George Soros
http://www.georgesoros.com/crisis-and-what-to-do110608
December 13th, 2008 at 6:15 pm
I also wonder if any of the decline is due to bankruptcy, which, as bad as it is, does reduce consumer debt.
December 13th, 2008 at 10:08 pm
I think those who claim that maintaining the current level of consumption is necessary to sustain our modern society are not thinking far enough and lack imagination. Yes, if we consume say 10% less, it will have an impact on businesses and employment figures. But at the same time, we need less income, since we’re consuming less. The problem is with our current employment paradigma, some people will get laid off and lose their income completely, whereas others retain their full salary. If we would go from a roughly 40 hour work week to a 36 hour work week while reducing salaries by 10%, wouldn’t we basically offset the reduction of consumption? I know this is extremely oversimplified, but the purpose is to demonstrate that there are more variables to consider.
Instead of the GDP, a quality of life index should be the primary benchmark. I wouldn’t be surprised if that would actually go up in my scenario. And there’s another major winner: our environment, which is no longer ravaged to produce all those frivolous luxury goods.
December 14th, 2008 at 6:46 am
“And since our economy is largely built on leverage, what happens when household debt drops too far? Is our financial system strong enough to survive a few years of decreased spending and increased saving? (And isn’t it crazy that should even be a question?)”
Sadly, this is the house of cards our economy is built on. Without massive consumption fueled by debt our economy will collapse.
December 14th, 2008 at 8:54 am
Quibble: You say IRAs are not included in personal savings, and then you link to an article that says “Since IRA and 401(k) contributions are not part of personal outlays (and, therefore, must be included in the difference between personal income and personal outlays), these contributions are included in national saving computations.”
December 14th, 2008 at 9:21 am
@Kelda (#32)
IRAs are not included in personal savings. They’re included in national savings. It’s goofy.
December 14th, 2008 at 4:29 pm
I think it’s about time americans have gotten some sense knocked into them. How can we keep spending with nothing to back it up. Fortunately I’ve never been the type to spend what I don’t have.
December 16th, 2008 at 8:54 am
Well, I assure you that my debt has increased and my savings has decreased in the past 4 months due to the purchase of my first investment property. I also for the first time have a car note and did not buy this in cash. To which I am very bummed about. So be glad I for me!!!!
Merry Christmas!
December 18th, 2008 at 2:37 am
So the US has its first reduction in savings rate but China has a savings rate of 50% and still going strong. So the actual savings rate is in it self not important. What is important is if it is increasing or decreasing.
If the savings rate is decreasing then not only do people spend the money they earn, they also take some from their savings. This is why the US economy has been booming.
Now that the savings rate is increasing, then people are not spending all the money they are making. When the savings rate increases in a downturn then that increases the downturn.