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Private Debt Crisis

June 6, 2011

There is a lot of discussion on the public debt situation in the United States.  There is not a lot of discussion on the private debt situation in the United States but it’s an even more important issue.  As a general economic rule, for individuals, groups, or societies, savings is paying for prosperity tomorrow with poverty today and debt is paying for prosperity today with poverty tomorrow.  The optimal situation is a solid and balanced investment policy but there are different ideal savings and debt rates in given situations.  One idea is to borrow money to make investments that will yield returns greater than the costs of the debt.  This can be done on a social level as well as on an individual level.

While there is an appropriate use of debt in a capitalist society, debt can be abused with negative consequences which can be quite severe.  Debt that costs more than the gains from investment depletes wealth for example.  There is antidotal evidence that individuals are using debt, both consumer and mortgage debt, to fund everyday life needs.  This is a problem as this debt is a drain on the wealth of the individuals and often the levels of debt being used as operating expenses exceed the total wealth of the individuals.  This is a guaranteed pathway into bankruptcy in which the debt cannot be repaid.  According to an untrustworthy source (http://www.bankruptcyaction.com/USbankstats.htm) consumer bankruptcies have been increasing since the 1980’s indicating a misuse of household debt.

The consequences to the individual are regrettable but there are social consequences of this misuse as well.  As long as a significant number of consumers are using private debt to fund operating expenses, there is excess demand for consumer items that will crash when the debt cannot be re-paid.  In addition there is an inflationary effect as the excess demand raises the costs of goods.  Also if government reacts to debtors going insolvent with inflationary policies there is additional inflation.  The reckless use of private debt by individuals and abusive debtors can have social consequences.

I’ve decided to take a look at some data about private debt and compare it to US GDP data.  The data from private debt is taken from the Federal Reserve schedule Z1 (http://www.federalreserve.gov/releases/z1/) and the GDP data is taken from the Bureau of Economic Analysis (http://www.bea.gov/national/index.htm#gdp).  The numbers are not adjusted for inflation (as far as I can tell) and are in billions of dollars.  I limit myself to the time period where data is available from the Federal Reserve schedule.

Figures are in billions of dollars

year

Houshold Debt

Business Total GDP Ratio
Total Mortgage Consumer
1979 1276.1 826.7 354.6 1347.0 2623.1 2562.2 102.38%
1980 1396.0 926.5 358.0 1478.1 2874.1 2788.1 103.08%
1981 1507.2 998.2 377.9 1662.0 3169.2 3126.8 101.36%
1982 1576.4 1031.1 396.7 1811.4 3387.8 3253.2 104.14%
1983 1732.0 1116.2 444.9 1999.1 3731.1 3534.6 105.56%
1984 1943.3 1242.8 526.6 2325.1 4268.4 3930.9 108.59%
1985 2277.8 1449.6 610.6 2577.5 4855.3 4217.5 115.12%
1986 2537.3 1648.3 666.4 2871.0 5408.3 4460.1 121.26%
1987 2755.1 1827.9 698.6 3122.6 5877.7 4736.4 124.10%
1988 3043.6 2054.2 745.2 3409.2 6452.8 5100.4 126.52%
1989 3319.0 2259.9 809.3 3641.5 6960.5 5482.1 126.97%
1990 3580.9 2488.8 824.4 3768.5 7349.4 5800.5 126.70%
1991 3769.7 2667.0 815.6 3676.7 7446.4 5992.1 124.27%
1992 3970.4 2840.0 824.8 3670.6 7641.0 6342.3 120.48%
1993 4210.3 2998.7 886.2 3691.5 7901.8 6667.4 118.51%
1994 4531.8 3165.3 1021.2 3842.0 8373.8 7085.2 118.19%
1995 4841.2 3318.9 1168.2 4142.8 8984.0 7414.7 121.16%
1996 5177.0 3523.8 1273.9 4415.0 9592.0 7838.5 122.37%
1997 5477.6 3739.3 1344.2 4851.5 10329.1 8332.4 123.96%
1998 5903.4 4040.6 1441.3 5417.1 11320.5 8793.5 128.74%
1999 6396.0 4416.3 1553.6 6033.3 12429.3 9353.5 132.88%
2000 6987.3 4798.4 1741.3 6590.0 13577.3 9951.5 136.43%
2001 7659.3 5305.4 1891.8 6955.3 14614.6 10286.2 142.08%
2002 8484.3 6009.9 1997.0 7146.8 15631.1 10642.3 146.88%
2003 9505.0 6894.4 2102.9 7337.1 16842.1 11142.1 151.16%
2004 10569.6 7835.3 2220.1 7794.7 18364.3 11867.8 154.74%
2005 11742.9 8874.3 2320.6 8467.3 20210.2 12638.4 159.91%
2006 12929.5 9865.0 2416.0 9355.5 22285.0 13398.9 166.32%
2007 13803.2 10539.9 2555.3 10574.3 24377.5 14061.8 173.36%
2008 13801.2 10495.5 2594.1 11187.7 24988.9 14369.1 173.91%
2009 13566.7 10339.8 2478.9 10897.1 24463.8 14119.0 173.27%
2010 13357.9 10069.6 2434.6 11087.2 24445.1 14660.4 166.74%
year Ratio Mort Rat Cons Rat Bus Rat
1979 102.38% 32.3% 13.8% 52.6%
1980 103.08% 33.2% 12.8% 53.0%
1981 101.36% 31.9% 12.1% 53.2%
1982 104.14% 31.7% 12.2% 55.7%
1983 105.56% 31.6% 12.6% 56.6%
1984 108.59% 31.6% 13.4% 59.1%
1985 115.12% 34.4% 14.5% 61.1%
1986 121.26% 37.0% 14.9% 64.4%
1987 124.10% 38.6% 14.7% 65.9%
1988 126.52% 40.3% 14.6% 66.8%
1989 126.97% 41.2% 14.8% 66.4%
1990 126.70% 42.9% 14.2% 65.0%
1991 124.27% 44.5% 13.6% 61.4%
1992 120.48% 44.8% 13.0% 57.9%
1993 118.51% 45.0% 13.3% 55.4%
1994 118.19% 44.7% 14.4% 54.2%
1995 121.16% 44.8% 15.8% 55.9%
1996 122.37% 45.0% 16.3% 56.3%
1997 123.96% 44.9% 16.1% 58.2%
1998 128.74% 45.9% 16.4% 61.6%
1999 132.88% 47.2% 16.6% 64.5%
2000 136.43% 48.2% 17.5% 66.2%
2001 142.08% 51.6% 18.4% 67.6%
2002 146.88% 56.5% 18.8% 67.2%
2003 151.16% 61.9% 18.9% 65.9%
2004 154.74% 66.0% 18.7% 65.7%
2005 159.91% 70.2% 18.4% 67.0%
2006 166.32% 73.6% 18.0% 69.8%
2007 173.36% 75.0% 18.2% 75.2%
2008 173.91% 73.0% 18.1% 77.9%
2009 173.27% 73.2% 17.6% 77.2%
2010 166.74% 68.7% 16.6% 75.6%

US Private Debt
 

There is a wealth of insight to be found in this data.  Private debt has been increasing steadily mostly lead by mortgage debt and consumer debt.  Consumer debt peaked in the 2000’s and has been decreasing nicely in the economic crisis.  Mortgage debt has not decreased bellow that which funded the bubble but business debt which has remained steady for the time that there is data grew precipitously throughout the 2000’s.  There is more to gain from this but these indications are what I’m focusing on.

One surprising bit of good news is that consumer debt is in rather good position.  This means that several economic effects can be avoided but one cannot.  The longer consumer debt continues to be misused to fund operating expenses the crash of excess demand is going to be worse.

When debtors providing consumer credit begun the default, demand for consumer goods will plummet leading to a likely deflationary spiral and individuals will not be able to afford basic necessities such as food.

The mortgage situation is disturbing as the levels of debt as mortgages remains too high.  The crisis in 2008 was a mortgage crisis but the correction is not complete and in fact has a long way to go.  This has the effect of continuing the protracted depression that we find ourselves in.  It may take more than half a decade for this driver of economic decline to run its course.

The most concerning indication is the ballooning of business debt over the past decade.  This is an indication that a natural stagnation has been occurring for a decade but, because of the power of faith, artificial growth has been sustained during that time.  This debt situation will need to be corrected necessitating an economic decline to a level that would have resulted from a decade of stagnation.  Only then can the causes of stagnation be addressed and economic growth resume.

Overall private debt has come down 7% of GDP (1.051 till$) during the crisis but it probably needs to come down 25% of GDP more (3.665 till$).  As painful as the depression has been so far, it is likely to get 3 to 4 times worse before an actual recovery can occur.  While on the surface consumer debt looks stable, there are still indications it is being misused.  When this unsustainable situation comes to a head and debtors providing consumer debt are forced to behave rationally, there will be a crash in consumer demand.  This will cause businesses to start to default in earnest on its debt leading to a massive economic decline.

While I cannot support this guess, I guess that the consumer debt crisis will happen in the summer of 2012 leading to a business debt crisis within a year or two.  In any case only when we as a society decide to or are forced to confront an abuse of debt will the economic decline be able to be addressed and progress be able to be made in improving the negative effects of a decade of abuse.

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