01 May 2014

Spending is Up But Debt is Down. This Might Be the Start of a Sustainable Boom

Last month consumer spending rose 0.9%, its largest uptick since April of 2009. That alone is good news. Even better, families are in a much better position to be spending now.

In April 2009, the economy was beginning to hemorrhage jobs and households were spending between 12 to 13% of their disposable income just to service debt (including mortgage and consumer debt). Just 4 quarters before, household spending on debt had peaked and it was only gradually coming down. Consumer spending was high, which was nice. But it was financed with a lot of debt, which wasn't sustainable.

The Federal Reserve reports the percentage of disposable income that households are spending to service debt here. Their numbers go back to 1980. As you can see, there has been a sharp and steady decline since 2007, just before the crash.

At its peak, households were taking on mortgage and consumer debt that their incomes couldn't justify. It's been hard on the economy as households paid down that debt - and as banks refused to offer credit so liberally - but the result is a much more stable position from which to launch a recovery. The bad news is that making this adjustment has been yet another drag on the economy since 2007. The good news is that now we're in a better place.

It's notable that in spite of households rapidly paying down debt and governments at every level shedding jobs, the economy has continued to create jobs during the last four years. Imagine that over the next four years households stop paying down debt and start spending again. Or even optimistically begin to take on more debt. That could be a huge boost to the economy. Consumption is 70% of GDP. Whether households are acting cautiously or spending optimistically makes a huge difference in economic growth.

There are have been a lot of mixed signals in the economy of late. Most notably, this week's report that GDP had grown only 0.1% was particularly disappointing. The economy has made a few false starts during its slow rise during the last four years, has posted a few quarters that suggest the possibility of a boom. It's hard to predict when it might actually take off but one thing is true: the conditions for combustion are the best they've been in nearly twenty years.

Households are spending again but at much lower levels of debt. This could be the start of something sustainable.

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