The Federal Reserve’s report on the Financial Accounts of the US (Flow of Funds) showed that household net worth grew by a robust $2.35 trillion in the first quarter (exceeding $1.9 trillion for the third consecutive quarter), largely due to the strong rally in equity prices and home price appreciation.
The value of nonfinancial assets has recovered at a much slower place relative to financial assets in this recovery as a result of the housing market bust, but is now picking up, rising by an annualized 7.7percent in the first quarter relative to the prior one, its largest quarterly increase since the fourth quarter of 2013 (see Chart 1). Home prices are re-accelerating due to the chronic shortage of for-sale homes and strong demand. Besides increasing net worth, rising home prices will increase financing options for individuals via home equity lines of credit.
The surge in equity prices is driving consumer confidence. The relationship between net worth and consumer confidence has tightened in recent years, as consumers are more aware of financial market developments (after the 2008-09 shock) and less reliant on debt-financed purchases. Although the jump in sentiment has not fully fed through to private consumption, it reduces the likelihood of any sustained drop-off in near-term spending activity.
The ratio of net worth to disposable personal incomes is at 662 percent, an all-time high. The last time the ratio was near this level, the personal saving rate was around 3 percent, compared to 5.3 percent today (see Chart 2). This divergence points to the marked change in consumers’ behavior this recovery, preferring to create strong buffers for “rainy days.” This has restrained private consumption growth and makes a return to pre-recession growth rates unlikely.
The auto and student loan sectors have accounted for most of the growth in consumer credit in this expansion as consumers rely less on credit to finance everyday purchases. Student loans outstanding rose 5.9 percent from the same time the prior year in Q1, the slowest rate since 2007. However, the level remains high and continues to eat into younger persons’ incomes that could be used to save for mortgage down payments and spending on other discretionary items.
Auto loan growth will slow due to lighter demand (up 7 percent year over year in the first quarter compared to 7.7 percent in the same period last year). The deteriorating situation in the auto loan sub-prime sector seems unlikely, at this point, to pose a broad macro financial risk. Lenders have tightened credit - the median credit score on auto loan at origination is up 11 points over the last year. New seriously delinquent auto loans are high and concerning, but they appear to have leveled off.
Mortgage loans outstanding have now increased for eight consecutive quarters, but remain well below pre-recession levels. Consumers are no longer pressured by massive mortgage debt payments but instead have to contend with high rents. Low mortgage rates, pent up demand and favorable demographics indicate that mortgage debt will pick up again soon, just not to bubble-induced pre-recession levels.
The trend in consumer credit has turned over the last couple of years (now growing by a robust 6 percent compared with last year), with more consumers opening revolving credit lines – a sign of growing confidence in balance sheets and confidence in finances and job prospects.
With consumption accounting for almost 70 percent of GDP, the consumer is the engine of the US economy. The continued improvement in household finances provides a solid foundation for growth. Taken together with the tight labor market - unemployment rate at a 16-year low of 4.3 percent - and high confidence, the consumer is probably in the best shape of the recovery.
Chart 1: Households’ Financial and Nonfinancial Assets
Chart 2: Personal Saving Rate and Household Net Worth as a Share of Disposable Personal Income
Mickey Levy is Chief Economist for the Americas and Asia, Berenberg Capital Markets, LLC and Member, Shadow Open Market Committee.
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