Great American Deleveraging
The term leverage is commonly used in the investment community and rarely used in consumer circles to describe debt.
It would be normal to be watching CNBC and hear something like this:
“Lehman Brothers filed for bankruptcy because they took on 35 to 1 leverage”
Rarely would you hear the term leverage among individuals who are speaking about credit card debt, it would be kind of strange to hear someone say:
“So, I reduced my leverage last month by $200 with Capital One”
When Americans began piling on debt in the early part of the last decade they certainly didn’t think of it as “expanding speculative capacity”, they looked at it as “credit’s available and why not take it if the bank is willing to give it to me”.
Interest rates never appeared that they were going to head up and hey, things were getting expensive, “I need another credit card”.
An additional layer of false security was thrown on top with ever higher home values. It became quite logical to extract equity in the form of a cash out refinance and pay off this credit card debt with tax-deductible, low rate mortgage debt, every couple years.
Boy, did that one come back and bite!
Even though we may not have looked at credit card and consumer debt as speculation, banks certainly did and, we should have to.
Spending on credit cards is, after all, a speculation that we will be able to handle the monthly payments and eventually pay it off, one way or another.
The Greatest Generation
Everyone has become very used to the term “Depression Era”. When your grandmother saves egg cartons for a rainy day in the garage, we just say “Well she was a depression era kid and they save everything”.
Interestingly, the Greatest Generation were savers and the mere thought of taking cash out of your home in those days was quite insane.
Whatever you do, don’t show your grandmother this next graph, she’ll be quite ticked at all of us, somewhere along the way we became “non-savers”.
The natural reaction, when in a recession, or a depression, is to start saving, yes, we’re smart enough to save a few bucks for a rainy day, at least we used to be.
In the past, savings rates hiked during a recession because of just that, consumers went into a shell and simply spent less, the outcome is a much higher savings rate.
Personal Savings Rate is defined as savings / disposable income – expressed as a percentage.
For example, I have $1,000 in disposable income this month and I save $200 then I have a 20% Personal Savings Rate (PSR).
The Graph above displays savings rates since they have been calculated in the late 1950’s. There is no need to speculate on the trend line prior to the beginning of this graph, it’s safe to say that the trend line was a steady upward motion during the years after the depression, particularly after World War 2.
Are We Saving Now?
The most recent 2007 and 2008 “recession” was pretty sour, one would think that we would be doing more on a National basis to increase savings rates from the 2006 levels, where we were spending just about as much as were taking in, with no room to spare, savings rates were around 1.6%.
You can see in the graph that we did get a boost in savings rates, the PSR spiked to a multi decade high in late 2007 when it hit 7.5%.
Now, we don’t want savings rates too high, high PSR’s say that people are scared to spend, scared people is not good, needless to say.
We do want to see a savings rate of around 4 - 4.5%, this would be healthy? Supposedly?
The problem that shows up in this graph is that we aren’t that far away from those very dark days in 2007 and we are already seeing that PSR come down to that 3% level. This is ok, as long as it doesn’t get too low again.
The problem here is this, history has always shown that our natural reaction would have lasted a bit longer, in other words we would still be at least “a little scared”.
It appears as though the savings rate is being dictated by availability of credit, and not cautiousness. If that trend line dips even lower, like it appears as though it wants to do, we’re not going to be saving any money? That’s not good, we want spending but we don’t want “drunken sailor” spending.
The risk argument here is this: “The PSR is completely dictated in this day in age by availability of credit, not by instinct to save for that rainy day”.
The Good News
This graph from the NY Fed Res Board is a bit dated and unfortunately we won’t be able to match up the most recent PSR dip and this Consumer Loan count.
This graph shows the number of Open Accounts by Account Type over the last 12 years and it’s pretty revealing as to just where we stand in the deleveraging process.
Home loans, Home Equity Lines and Auto Loans are pretty steady, in terms of Number of Accounts, the value of each account is much higher but, the shear number of accounts remains relatively steady.
The big account type to pay attention to here is the number of Open Credit Card Accounts, it is represented by the Blue Line and the count is on the right.
The number of open credit card accts dipped by a staggering 120,000,000 accounts! That is the essence of credit curtailment. Banks trimmed the fat and so did consumers as many consumers simply couldn’t afford to pay unsecured debt anymore. Bye bye credit cards, at least for now.
The shear number of accounts is coming down and that's good, the question is:
Where are we on Total Household Debt?
More importantly, are we close to forgetting those dark days of 2007?
To be continued…