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Consumer Spending

posted by Elizabeth Warren

As the country contemplates a recession, economists are wringing their hands over a slow-down in consumer buying.  About two-thirds of the economy is driven by consumer purchasing.  Without that engine, economists fear that the economy will be in serious trouble.

But I haven't read much about the role that debt will play in slowing down consumer spending--recession or no recession.  The staggering debt burden that American families are carrying should have everyone worried.  The math is easy:  Every dollar that goes to paying interest is a dollar that is not used to buy socks or movie tickets or double lattes. 

The debt service ratio estimates the proportion of after-tax income that families spend on mortgages and consumer debt.  That ratio rocked around 10-11% for the early 1980s, then it began to climb. Since the second half of 2005, despite record low interest rates, the ratio has remained above 14%.  That's about a 30% increase in the amount of income consumed by debt payments alone.

The reason debt service has grown isn't hard to figure out.  From 1990 to 2004 alone, Americans shifted from owing about 86.2% of a year's disposable income to owing 105.1% of their disposable income.  We don't have the numbers yet, but no one thinks the debt load shrank from 2004 to 2007. 

An increase of three percentage points in the debt service ratio may not sound like much, but that's an additional $3 taken out of every $100 of after-tax income just to make interest payments.  It has the same effect as taking a 3% pay cut.

The rise in the debt service ratio is remarkable for another reason.  From 1980 until 2007, the proportion of two-earner families increased dramatically.  Inflation adjusted wages for a fully employed male did not rise, but a second income pushed up median family earning throughout this period.  As families earned a second income, we might have expected that the proportion of total income that went to debt service would fall.  Instead, the debt burden ratio rose even faster, consuming a larger share of the couple's combined larger income. 

Consumers may or may not cut back on spending because they are glum about the future.  But at some point, psychology doesn't matter and hard economics take over.  Families face a relentless drain on their incomes, spending more every month on interest payments.  Sooner or later, more interest means fewer lattes--and more worried economists.


Why should consumers continue to make the credit card companies so much money when they are the new loansharks of the world forcing working class people who pay their bills on time to pay horrendous rates up to 42%. They tell them to pay down on their debt and then they cut their credit limit to their new balances at these loansharking rates.Sorry retailers, tell them to end credit card abusive practices or the receession begins and the layoffs will visit the banks too!

There is no doubt that we can see the darkness into which we tread but I'm afraid that we are nowhere near a cliff to fall off of. Before creditors will stop loading consumers with debt we'll probably see a continued shift in terms to longer and longer repayment terms.

When monthly payment pressure exerts itself the options are stop lending or reduce the monthly payment. Already we are seeing 72 month car loans or longer. More than 30 year mortgages, etc.

As long as people are resigned to the fact that they must make payments in order to have and it becomes part of acceptable culture, little will slow the attraction of desire in a world when consumption is damn near patriotic.

The job of the consumer is to consume. Government wants us to do our job and spend our way out of this recession. But for those of us on the consumer side of the equation I have to ask myself, does government consider the individual cost of tis approach or is what is better for the masses more important.

As for relying upon the bankers to inject reason, don't count on it. After all these years it has finally sunk in that what drives banking is not sense or logic, can you say subprime mortgage, but next quarters profit. Bankers I talk to actually feel they have an ethical duty to the shareholders and bank to maximize profit and return. As they say, "We are not a charity and not a social service. We are a bank." It doesn't make it right, just understandable.


Steve's banker friends are emblematic of a business culture dominated by single-answer fundamentalists. Like jihadists or christianists, there is one and only one answer to all questions: will it promote profits and shareholder value?

Makes for a simple life. And an ethical one if, by ethics, we mean 'how we do things around here?" (As opposed to some notion of moral right or wrong).

Value the singular long ago split off from values the plural. The singular means wealth, profits, winning and shareholder value. Value the singular is no longer a subset of the plural that now actuallly has a different set of meanings. The singular and plural are entirely different words.

Value the singular, though, is in the daily lives of Steve's banker friends, the trump card, the king of the hill.

It's power and role as trump card is not questioned. It is the idol worshipped; the single answer.

It sits at the center of 'how we do things around here'. It pervades the entire culture.

And it has driven us over a cliff.

"Over a cliff"? The "idol worshipped"? The "entire culture"? Is this a preacher's sermon? Please. Edit your posts for hyperbole. Everyone has problems, recessions happen every few years. But with 5% unemployment, this nation of 300 million people is not going "over a cliff". And for the small number of the population who do go "over the cliff", the drop is a lot shorter and the safety net a heck of a lot stronger than my parents had growing up in the Depression.

I can't resist responding to Steve's comment about the role of "having" and the "attraction of desire." Because Elizabeth will be too modest to do so, I will give one of her fantastic pieces a plug here. In The Over-Consumption Myth, 82 Wash. U.L.Q. 1485 (2004), (www.yale.edu/law/leo/052005/papers/Warren.pdf) she powerfully debunks the notion that out-of-control desire is behind the rise in debt service ratio. Homes and health care--not to mention the increased burden of debt servicing that folks in the 1970s hardly faced at all--have laid the American consumer low, not the "attraction of desire." My takeaway from this not-to-miss piece is that, while bankers bear their fair share of blame for adding to the consumer burden, a more serious reconsideration of the give-and-take between upper-income and lower-income families and the social safety net that protects us all is in order in this country (and in Europe, too).

I had not realized that debt service was as high as 14% -- much less that it is getting higher. I'm intrigued as to why this might be so -- Elizabeth's post doesn't go that far.

Mt's comment about quieting down the hyperbole is ironic, given that it was hyperbole that drove Congress over the cliff and got them to pass BAPCPA. I guess one man's hyperbole is another man's impassioned pitch.

Mt's comment that the safety net is much better now than it was in the Depression made me grimace. I mean, he sets the bar so low. There really wasn't much of a safety net at all during the Depression, especially during its early years. And as for "the drop being shorter," I frankly don't know what that means.

I think we really do have to grapple with what consequences might flow from an increasing percentage of consumers' disposable income having to be devoted to debt service -- especially as we have yet to get a handle on the rising cost of health care, oil and food (both in absolute dollars and as a share of disposable income). Borrowing money as a means for priming the consumer spending pump strikes me as a foolhardy and dangerous policy.

I just heard Prof Warren on NPR. The figures she quoted are staggering. Seeing my children's family living that story of credit card debt, what can we victims do" If they declare bankruptcy, he will lose his job. They cannot get a better mortgage rate because of their poor credit record.

Is there some way we stop the credit card companies exploiting people and making large profits?


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