U.S. debt shrinking at glacial pace
— -- Eighteen months into a deep recession triggered by a credit bubble, consumers have made little progress shrinking a mountain of debt. Until they do, the economy will struggle to grow — likely for years.
Household debt peaked at $13.9 trillion in 2008, almost double the figure from 2000. Since then, as consumers cut up credit cards, refinanced outsized mortgages and slashed spending, debt has fallen — all the way to $13.8 trillion, according to the Federal Reserve.
"We really have a long way to go," says economist James Hamilton of the University of California-San Diego.
Until the fourth quarter of last year, American consumers had never reduced their total debt in the post-World War II era. Yet the payback or "deleveraging" since then represents a small step along a very long road.
"The kind of deleveraging we need to see takes six or eight years. ... The retrenching of the U.S. consumer is a huge adjustment the whole world is going to have to absorb," says Harvard University's Kenneth Rogoff, former chief economist of the International Monetary Fund.
Household debt peaked at 133% of disposable income in 2007 vs. 65% in the mid-1980s. To pare it back to a sustainable level, consumers will have to pay off — or walk away from — roughly $5 trillion of the total debt outstanding, says David Rosenberg, chief economist of the investment firm Gluskin Sheff. That's more than China's total economic output.
Some debt will be erased through home foreclosures and credit card defaults. But the remainder must be painfully repaid, by consumers holding expenditures below earnings for years. Already, the savings rate, which fell into negative territory before the financial crisis, has jumped to 6.9%.
That's a big change from the pre-crisis period when consumers fueled a consumption binge by borrowing against the bubble-inflated value of their homes.
But it's not enough.
The twin collapse of the housing and stock markets has destroyed more than $12 trillion in wealth since 2007. And wages now are flat-lining amid the recession even as interest charges continue adding to the debt tab.
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