High Household Debt Contributes To Recession...Debt Not High Today

“Davidson” submits:

High Household Debt levels relative to Disposable Personal Income are the glass houses which collapse when stress hits financial system. Current levels of Household Debt Svc are the lowest since the inception of this series in 1980. It is shocking to hear so many ‘experts’ at Davos and elsewhere forecasting that recession as imminent.

Once you recognize that many investors take their economic perceptions from price trends, then you come to understand that fundamentals such as Household Debt levels relative to Disposable Personal Income are not part of their thinking. With Household Debt levels relative to Disposable Personal Income at the lowest levels since 1980, nearly 40yrs, the threats of recession from an excessively levered financial system are quite low.

Recessions occur when lending momentum suddenly shifts much lower after several years of rising activity. Historically this has occurred when investor optimism expands and drives T-Bill rates higher. This narrows the rate spread between T-Bills/10yr Treasury rates which is a good proxy for lending momentum. Historically once this spread has fallen to 0.2% or lower, lending slows and defaults rise which results in a correction of recent financial excesses. Lender psychology shifts quickly sharpening the correction.

Government policy changes can lead to shifts in economic trends but generally, politicians do not act to create recessions. The Sub-Prime lending explosion that began in 1995 was a misperceived government policy to eradicate poverty, the Community Reinvestment Act 1995. Sub-Prime lending rose sharply from 2005-2007 as reflected in the Mortgage Credit Availability Index(MCAI). The push for Sub-Prime lending to eradicate poverty resulted in the highest level of Household Debt levels relative to Disposable Personal Income recorded. In 2007 the T-Bill/10yr Treasury rate spread fell below 0.2% which was followed by a down-shift in lending momentum and the Great Recession. Dodd-Frank legislation, another misperceived government policy, was in response to correct the earlier Community Reinvestment Act 1995. Mortgage lending has been historically low since the passage of Dodd-Frank regulations resulting in current Ratio Total Housing & Single-Family Starts to US Population levels remaining near or below levels recorded since 1959. Government social engineering policies have never produced the outcomes anticipated and policymakers swing from one bad policy to another. Frédéric Bastiat wrote “The Law”, 1850,http://bastiat.org/en/the_law.html in which he simply described government’s role as focused on protection of the people from outside hostile threats and to internal guarantees for fairness and equal opportunity. Whenever government initiates programs to engineer social outcomes outside these guidelines, history records a host of unintended and disastrous social disruptions. Often, these include financial collapses.

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Disclosure: The information in this blog post represents my own opinions and does not contain a recommendation for any particular security or investment. I or my affiliates may hold positions or ...

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