The False Premise Behind the Consumer Debt Scare
The Wall Street Journal recently published a lengthy article calling attention to the growing indebtedness of people in the United States as a harbinger of a looming crisis. The article, authored by three WSJ reporters who cover consumer credit and other financial issues, characterized the growth in consumer debt as being driven by people striving to “stay in the middle class.”
The authors carefully detailed and illustrated the growth in consumer debt seen across the past three decades and provided an empathy evoking example of a young family using credit to make ends meet. But the premise of the article, which seems to want readers to wonder whether the growth in consumer debt is leading us toward the second coming of the Great Recession, is fundamentally flawed.
Indebtedness matters as an indicator of economic activity. But what matters much more is indebtedness relative to the ability to repay. As income and wealth increase, we’d also expect indebtedness, which is a tool used for many activities more productive than striving to stay in the middle class, to increase as well.
For example, outstanding student debt has now reached $1.5 trillion. On its face, that’s a scary number. But when you realize that college degrees, on average, yield an additional $1 million of earnings over the course of a career, you can appreciate that this debt, on net, will result in a net gain both to individuals and the overall economy.
Housing debt, which constitutes the vast majority of consumer debt, plays a similar role in generating wealth for most home and landowners. The WSJ article cites that home values swelled by 188% over the past three decades and offers this as an example of how the cost of “staying in the middle class” is increasing. But it fails to note that those who have mortgages are homeowners who benefit unequivocally from that same inflation that drove their inflated borrowing in the first place.
The aim of the article, to assess whether growing consumer debt indicates a vulnerability in our economy, would have been better achieved through a detailed analysis of the evolution of the ratio of indebtedness to income, or wealth. The few statistics that are offered in this vein seem to undercut the implied thesis. The authors write that net wealth among the middle 20% of income per household, increased—albeit only slightly, 4% when adjusted for inflation—between 1989 and 2016. For households in the top 20%, median net worth over that same period “more than doubled.” That means that increases in indebtedness were offset, on average, by increases in wealth for these two segments of the population. It also shows, unsurprisingly, that Americans are spending a lower share of their income on debt repayment today than they were prior to the Great Recession.
Debt isn’t simply a means of paying for things that are, de facto, unaffordable. Debt is an instrument for making investments that generate wealth or for smooth consumption during periods of economic hardship that are expected to be followed by prosperity. We’ve all seen debt used in a way that caused personal financial harm. But it’d be wrong to assume that changes in overall indebtedness alone can tell us much, good or bad, about the financial health of Americans or the overall economy.
Beth Akers, a senior fellow at the Manhattan Institute and a former Council of Economic Advisors economist, is the author of “Game of Loans,” published by Princeton University Press in 2016.
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