Friday, October 26, 2007

How Sudden Was The Debt?

The title of this blog is obviously a play in words, but it also points out a very troubling fact: people got into a lot of debt, very fast. How fast?

Here is a chart that shows exactly that (click to enlarge). It plots the annual rates of growth in household debt and personal income. They both grew at the same rate, more or less, until 2000 and then diverged very sharply, with debt rising in double digit rates and incomes trailing badly. This debt - income "gap" has persisted for a long six years and finally seems to be abating in 2007 (based on 6 month data projections).

Data:FRB

No mystery about what happened: homes used as piggy banks and the asset economy - instead of higher incomes generated through an expanding production base. The negative effects of this 2001-2006 gap are going to be with us for a long time, pressuring consumption and investment. The gap will also produce rising and persistent debt defaults, since the debt/income imbalance was so large and so long-lasting.

There is also no mystery about how this dangerous situation can be overcome; blue line significantly over the red line, for many years: i.e. personal income must rise much faster than debt, so that borrowers can comfortably service and gradually reduce their overextended debt load.

How can this be accomplished? Certainly NOT by creating another debt-induced asset bubble (stocks, commodities, whatever...). This will only make the two lines diverge again and the subsequent correction will be that much more painful, because -in the end - all debt must be serviced through earned income. Otherwise it all simply turns into a Ponzi scheme.


26 comments:

gamma said...

Love your site.

Bernard said...

"There is also no mystery about how this dangerous situation can be overcome; blue line significantly over the red line, for many years"

That is so true. That was a great way to illustrate the problem.

"in the end - all debt must be serviced through earned income. Otherwise it all simply turns into a Ponzi scheme."

Again, very true. Why don't people get this yet (especially the central bankers)?

DRPI said...

Hellasious,

Here's one for you.

Have a great weekend.

Lanny Nugen said...

Do you have data all the way back to the 50s when we still have the production in house?

Hellasious said...

data all the way to 50s...sure.

The Fed has them from 1945 onward.

Go to www.federalreserve.gov/releases/z1

and hit the "Historical data" link.

Jeremy said...

You ever wondered why it is taking so long for things to come crashing down? I mean, you have been talking about the ballooning debt problem for almost 2 years, but to date, markets have not stopped climbing.

Hellasious said...

I certainly hope that things don't come crashing down. Why would anyone wish for so much pain and suffering to be visited on tens of millions of people?

That's precisely why I am posting on this blog... perhaps to change some minds about the dangers of high debt and relying on pumping up bubbles.

Because even now, with the proper policy mix, things CAN be turned around.

Regards.

ST said...

Great blog. Thank you.

How's this for an alternative to "There is also no mystery about how this dangerous situation can be overcome; blue line significantly over the red line, for many years":

As long as you're borrowing from foreigners in your own currency, inflation will do a good job of extinguishing a great deal of the debt.

I'm not saying that this will work for family budgets, but for the government it seems to be the most likely escape route.

Anonymous said...

The trap is almost set:

http://www.bloomberg.com/apps/news?pid=20601087&sid=ahZh1lKYXD8w&refer=home

Jason B

Anonymous said...

NYSE Eliminates Trading Curbs Dating Back to 1987 (Update1)

By Edgar Ortega

Oct. 26 (Bloomberg) -- The New York Stock Exchange said it will no longer impose curbs on computer-program trading that were put in place after the crash of 1987, claiming they're no longer as effective in damping swings in prices.

Jason B

Anonymous said...

Jason B - Removing the stops is not nearly as sinister as it sounds. Simply put, they dont prevent program trading, they just trade somewhere else on one of the many other exchanges offering the same products - a situation that did not exist in '87.


Oh, but I forgot, this is one of those parties where everyone is waiting for "the end". whatever.

Edwardo said...

Jeremy wrote,

"You ever wondered why it is taking so long for things to come crashing down? I mean, you have been talking about the ballooning debt problem for almost 2 years, but to date, markets have not stopped climbing."

Are you kidding?

Look at the major stock indexes priced in just about any currency other than the free falling dollar, Pounds, the Euro, the AUD, or precious metals, and you will see that shares have been in a bear market almost eight years. And then there is the calamitous housing debacle, a collapse of such mammoth ferocity that it breaks records for hideousness on an almost daily basis.

I could go on, but why bother. In the meantime, open your eyes.

Edwardo said...

Great blog. Thank you.

How's this for an alternative to "There is also no
st wrote:

"As long as you're borrowing from foreigners in your own currency, inflation will do a good job of extinguishing a great deal of the debt."

Don't count on that state of affairs lasting all that much longer. The dollars days as a reserve currency are numbered.

I'm not saying that this will work for family budgets, but for the government it seems to be the most likely escape route.

It won't work for the government either because two things will happen if this trend gets out of control, the bond market will revolt-or be destroyed in a hyper-inflation. But before all that ulginess occurs there will be massive CAPITAL FLIGHT! Let's see the stinking government run itself when that happens.

Greenie said...

Dude, Would you be able to explain, why Fed funds rate was 15% on Oct 25?

http://newyorkfed.org/markets/omo/dmm/fedfundsdata.cfm

Hellasious said...

Why fed funds traded at 15%...

You will notice that 15% was the maximum. The reason is that late in the trading day, right before the fed wire shuts down, a bank may be caught with a small debit balance and needs to square, in which case it will pay an exorbitant rate...like 15% - for a small amount.

Likewise, a bank may also be left with a small credit balance late in the day and needs to put it to work, so it will accept a low interest rate, as happened a few days before (0.5%).

Greenie said...

Thx.....if it is a small balance, that is probably ok. 15 looked too high compared to the rest of the high-low ranges. Don't you find it a bit unusual?

Hellasious said...

Not really, because it was obviously a very small amount (otherwise the average would have been higher). It happens sometimes, particularly if the entity that needs to borrow is a small name with small limits (trading lines) from big banks.

Anonymous said...

hellasious,
while i don't always agree with you, you present fresh insight and perspective found nowhere else. thank you.

i strongly disagree with those bloggers that like to chant the 'sky is falling mantra' and bash the supposedly moronic behaviour of the american masses as they await the end of the world.

the world's economic powerhouse today and for the foreseeable future is the usa - no matter how you measure it. that is not at risk for the near or medium term. however, there are 2 economic related threats that the usa has to deal with - 1. cost of entitlements [health care, social security], 2. the asian currency peg. i argue that the asian peg has contributed significantly to the grossly distorted trading, savings and credit flows that you write about.

it's pretty obvious that our leaders understand how best to use this financial 'crisis' as cover to work on solutions to both threats.

Greenie said...

>the world's economic powerhouse today and for the foreseeable future is the usa

very strong statement....do you have something to back it up, or is it a statement like "The sun does not set on the British Empire and it never will".

Lyon Jewett said...

As an originator the past seven years, I experienced this first hand.

Homeowners that started off with mortgages of $250k suddenly wanted to trade up and take on mortgages three times that size. Made available through lax underwriting standards, they jumped at the chance.

Spurred on by agents saying "prices only go up," many customers didn't want to hear about my questions of whether they could afford it. A cash out refinance would take care any cash flow shortfall.

Now I am fielding calls about "can you get my payment down?"

My answer is "well no."

DRPI said...

Hellasious,

Another one for you.

Greenie said...

This guy thinks that 15% thingy is serious -

http://market-ticker.denninger.net/

Anonymous said...

Why don't people get this yet (especially the central bankers)?

Because they're Republicans.

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