Sunday, June 12, 2011

Debt. Debt & more debt

The total amount of mortgage debt peaked in 2008 at $14.6 trillion, whilst the total amount of consumer debt, comprising of autoloans, credit card and student debt, peaked at $2.6 trillion during the same year. Today, mortgage debt outstanding stands at $13.8 trillion, while consumer debt stands at $2.4 trillion. WOHOO- the consumer has been delevaeraging ..... over the last 3 years outstanding consumer debt has fallen buy $1 trillion. If the story ended there, that would be great. However, that would require us to ignore the "trivial" fact that the banks have written off significantly more than $1 trillion in non performing loans.

The lower the debt/GDP ratio, the more powerful and stable the gains in GDP growth, as the growth in GDP can increasingly be financed within your own means, without resorting to outside debt. Not all debt is bad, but increasingly relying on it certainly is. Purchasing on debt is very much "short term gain for long term pain", both on the micro and macro level. Once the purchase has been made, and the loan taken out, the investor/purchaser has a short term benefit (as does the economy); however he has subjugated himself to a monthly installment for a (typically) depreciating asset.

The irony is, that the longer the scenrio plays out, and the more frequently people live out of their means, the more debt is taken on, and the more leveraged one becomes. Leverage increases as the the level of poorness increases in tandem. The following graph from the St Louis's Fed shows that the phenomena is not merely one unique to the individual consumer, it is true on a national level too:

Deleveraging is a painful process. It is a long, and slow drawn out process. But with the Fed adding an debt to the tune of an additional $7 trillion to the nation's budget sheet since 2008, the problem is not going anytime soon. And with interest rates at all time lows, and can only go up from here, how is the debt to be serviced?

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