Debt! Debt! Debt!

Federal Reserve’s Report Shows Households Cut Debt, Businesses Add Debt

Are we really shedding off debt? Matthew Zeitlin looks into the latest Fed numbers.

09.20.12 10:05 PM ET

For economics wonks, there’s hardly a data release juicier than the Federal Reserve’s Flow of Funds report. The quarterly report measures the debts and assets of the federal government, state and local government, households, and businesses in the United States. It can show which sectors are putting on debt, which sectors are deleveraging—in other words, who is getting poor and who is getting rich. The report released today, for the second quarter, shows: a household sector that has finally started to take on debt after four years of post-bust deleveraging; corporations taking advantage of cheap financing; and the government’s debt level still climbing, though at a slower rate than in recent years. Here are the three most important takeaways.

1. Households are slowly (re)leveraging, but their net worth is down.

The report tells a terrifying tale of living high and paying the price for American households. In the years before the financial crisis, in 2005 and 2006, household debt increased 11.1 and 9.8 percent, respectively. But for three years after the Lehman Brothers crash, household debt fell—in part because people defaulted on mortgages and other debt in huge numbers. In the second quarter of 2012, household debt climbed modestly, at a 1.2 percent annualized rate—the biggest increase since early 2008.

Mortgage debt for households fell at a 2.1 percent annualized rate, continuing a downward trend since early 2008 that stands in stark contrast to the truly gargantuan increases seen in the middle of the decade (in 2005 and 2006, household mortgage debt never rose less than 11 percent per year). Total nonfinancial household debt is now some $13 trillion, compared to annual economic output for 2012 of just over $15 trillion. The net worth of households now stands at $62.7 trillion, a $300 billion decline from last quarter. Why? Blame the Dow Jones Industrial Average. The value of stocks and mutual funds owned by households declined by $600 billion while real estate owned by households (i.e., their homes) rose in value by $355 billion.

2. The corporate sector can’t get enough of cheap debt—although bank balance sheets are shrinking.

Businesses saw their debt rise at a 4.9 percent annual rate in the second quarter of 2012, similar to 2011’s 4.7 percent jump. (In 2007, by contrast, businesses’ debt rose 13.6 percent.) In June, total nonfinancial business debt stood at slightly below household debt, at $12 trillion. The story for domestic banks, however, was different from their nonfinancial cousins. The domestic financial sector’s debt fell by more than $700 billion annualized, a 5.1 percent annualized decrease, continuing a deleveraging trend that started in early 2009. The outstanding debt of the domestic financial sector—American banks—is $13.9 trillion.

3. Government debt tells two stories.

In the second quarter, state and local debt increased at a $23.6 billion annualized rate—a measly 0.8 percent. That actually reverses a decline—at an annualized rate of $37 billion—in the first quarter. Since the end of 2008, state debt has been going up and down, while federal debt continues to climb ever higher. In the second quarter, it rose at a 10.9 percent annualized rate to just over $11 trillion in total. Since the Federal Reserve is counting debt issued in the credit markets—not the total government debt, which includes debt held by different portions of the government—the total is quite a bit lower than the $16 trillion figure that’s been thrown around recently. And while the federal government’s debt is still increasing steadily, the rate of growth is nothing like what was seen in 2008 and 2009, when four of eight quarters saw annualized rates of growth of more than 25 percent.