American Consumer Deleveraging Continues

Consumers in the U.S. started fixing their finances last year. This process has gained momentum in the last quarter and this week we learned that the savings rate reached a high of 6.9%. Americans have been reducing their debt and spending less during the past few quarters.

click to enlarge

Household liabilities fell to 131.1 % of disposable income (after-tax income) in the last quarter from a peak of 141.0% in 2007. At the end of 2008, the number stood at 133.9%. In the first quarter consumers paid down debt and did not add new debt to their finances. From the above chart, we can see that liabilities grew from about 87% of after-tax income in 1990 to an all-time high in 2007 due to the availability of cheap credit and excessive borrowing. In this decade, the household debt-to-income ratio rose considerably faster than previous years. For the first time ever, household debt fell for two quarters in a row for Q4 2008 and Q1 2009.

Since the U.S. economy is a consumer-based economy, the fall in debt growth has a negative impact on a any recovery.

A historical chart of the household liabilities is shown below:

Source: BEA, Flow of Funds of the United States, Federal Reserve

From the late 80s households continued to accumulate more liabilities up until last year. In Q1 2007, total household liabilities decreased by $255b compared to taking on about $2.8T of debt in Q1 2008. Just like the borrowing binge went on for many years, the deleveraging process will continue for several years.

Comments

[Dave Wrixon:]

Deleveraging is a rather sophisticated term.

Many are solvent, most of the remainder are afraid, and those that do not need to be are just being careful.

Jul 01 08:54 AM

[predictorma...:]

I think we are in for a different American consumer in the coming years.

Some people will not have enough for much discretionary spending. They are making as much at their job, plus they won't be getting the cheap financing, access to home equity, subsidized financing on purchases etc.

Those that do have enough will spend more wisely. They will also have less than before due to reduced income (maybe no bonus, or less commission, or spouse out of work).

What the economy (and the government) will find out is that the two above groups with require less goods (than the period 2003-2008, say) and less infrastructure (stores, restaurants, casinos) and when things are "back" we still will have a lot of excess capacity serving the consumer market.

Jul 01 11:41 AM

[Mad Hedge F...:]

And we have far to go before we sleep. I spent the evening with Dr. Janet Yellen, the president of the Federal Reserve Bank of San Francisco. She thinks that thanks to the government’s tax cuts and spending programs, we will be out of the recession by the end of this year. After massive inventory liquidation, the auto industry in particular is poised for a rebound. Financial markets are now in better condition than we imagined possible six months ago. However, the pace of the recovery will be frustratingly slow, and it could take several years to return to full employment. Since the majority of the Fed board members feel that inflation will be stuck at 2% for years to come, deflation presents a greater risk than inflation. We are not by any means out of the woods yet. Rising energy prices and interest rates are a potential drag on the economy. Commercial real estate is at the top of her worry list, as falling rents and capital values could create a downward spiral, further impairing the banks. China’s wishes for an alternate reserve currency are impractical. Answering questions as only a UC Berkeley professor can, she further confirmed my belief that we are looking at an “L” shaped recovery at best. However, she did pour some cold water on my idea that the TBT has further to run. “Inflation running up to untoward levels doesn’t make any sense,” she averred.

Jul 01 11:42 AM

[Ted Hurlbut:]

The deleveraging is necessary and will eventually result in a more sustainable savings rate. It will be a drag on the recovery, and make it slower and much more drawn out.

Jul 01 01:16 PM

[Dave Wrixon:]

Yes, without de-leveraging there will be no sustainable recovery.

Some Federal de-leveraging is probably also necessary.


On Jul 01 01:16 PM Ted Hurlbut wrote:

> The deleveraging is necessary and will eventually result in a more
> sustainable savings rate. It will be a drag on the recovery, and
> make it slower and much more drawn out.

Jul 01 02:20 PM

[Dave Wrixon:]

If you go to developing countries imported goods are generally expensive due to weak currency. With the massive contraction of its manufacturing and an almost certain collapse in the value of the dollar the US could find itself in a similar postion. Just because people are short of money, it doesn't mean that stuff is going to get given away, it will simply be exported to those that can afford it. Such pressures will also tend to give rise to wage inflation. Inflation is ultimately about money supply rather than demand.


On Jul 01 02:02 PM WAKEUP wrote:

> I'm not so sure, about the assumed-by-Fed board members, 2% inflation.
> That's what they HOPE for. I'm sure they view ANY inflation as being
> better than deflation. But deflation is a bigger possibility than
> it appears anyone is giving it credit (no pun intended) for. Maybe
> somebody can explain it to me, but I don't see how deflation can
> be avoided, with consumers simply not buying, jobs bleeding all over
> the place, and a pervasive fear of financial wipe-out in the front
> of almost everybody's minds. Stuff will automatically get cheaper,
> when demand falls through the floor. That's how it works. Ever try
> to sell something, say, a car you no longer need, and find that very
> few people come to look at it, and nobody will pay what you're asking,
> for the car? Your choices, at that point, are two: Reduce the price,
> or keep the car. Merchants and manufacturers can't afford to KEEP
> all that stuff. They MUST sell it, at SOME price, or go out of business
> (which might happen, anyway, if demand goes low enough.) Hence, lower
> (very likely, MUCH lower) prices; hence, deflation. Listen to your
> radio, for a couple of hours; you'll hear a car dealership commercial
> (the desperate-sounding kind) about every 8-10 minutes. When the
> Sales Manager of Desperate Dan's Dealership finally shuts up, you'll
> get a dose of Larry's Languishing Leisurecraft's pleading voice,
> trying to convince you that you'd better buy a jet-ski thingy, before
> you get old and die, this afternoon. If you listen fast, you might
> hear a song, between commercial ads. It's rough, out there, and it
> appears very obvious to me that it's getting rougher, all the time.
> 2% inflation? I really don't think so. People just ain't gonna buy
> that stuff, unless it's got a VERY LOW price, on it. I think that's
> what's called deflation.

Jul 02 03:12 AM