The financial well-being of the American consumer is of paramount importance to the strength of the economy. As we have often noted in these commentaries, personal consumption accounts for over two-thirds of gross domestic product, and anything which threatens the ability or willingness of Americans to spend money poses a risk to the economy. We therefore observe with some trepidation the nearby graph, which illustrates that household debt has rebounded from the depths of the financial crisis to reach a new all-time high of $14.8 trillion as of the end of 2016. This represents an additional $400 billion of debt compared to the previous peak.
The composition of this debt tells an interesting story. Outstanding mortgage loans stand $667 billion below the peak established during the housing market boom of 2008. Similarly, home equity loans are down $258 billion over the same time period, while credit card receivables are $102 billion lower. Households have deleveraged, at least as it relates to housing-related loans and revolving credit. On the other hand, automobile loans have jumped 44% to $1.2 trillion since the third quarter of 2008, prompting understandable concerns about this sector. Even more alarmingly, student loans have more than doubled since then to a current level of $1.3 trillion. In aggregate, household debt has surpassed the previous peak, but the composition of this debt has shifted. Student and auto loans are now the second and third largest categories of debt for American households.
To what degree should we worry about record debt levels? Rather than delve into the credit quality of automobile receivables, or rehearse the familiar arguments related to student debt, let us put these overall levels of household debt into a broader context. Just as one would never assess the health of a company only by looking at the liability side of the balance sheet, so, too, should one look beyond absolute debt levels to gauge the health of the American consumer.
Outstanding debt has surged to a new cyclical peak, but household incomes have surged even further. Indeed, as the accompanying graph illustrates, debt as a percentage of disposable income has dropped sharply from a peak of 133% in late 2007 to a present level of 103%. This is the lowest level of debt to income since 2002 and helps to explain why the pace of this economic expansion has been so modest. Unlike previous economic cycles, the current expansion has not been fueled by inexorably higher and higher levels of debt.
This measure admittedly remains well above longer-run historical trends, but the evolution of household economics should support higher levels of debt relative to income. The growing prevalence of two-income families, wider accessibility to credit and the broader availability of unemployment insurance all argue that household leverage need not return to the levels of previous generations.
As with income, asset values have also rebounded from the Great Recession at a faster pace than debt. The median price of a house in the United States is up 27% from the housing crisis, while the S&P 500 index of public equities has more than tripled. The result of this is that debt as a percentage of household net worth has dropped precipitously from a peak of 25% to 16%, close to a multidecadal low.
As was the case with Mark Twain, rumors of the death of the American consumer are greatly exaggerated. Yes, debt levels have established new records, but rising incomes and asset values reduce the threat of higher household debt. Household balance sheets are not stretched, and personal income growth, albeit modest, is sufficient to support current debt levels. Continued improvement in the labor and housing markets are key to this fine balance and warrant close attention as this eight-year cycle continues to unfold.
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