Taxes and debt stand in way of prosperity

In Charles Dickens’ novel, “David Copperfield,” one of the characters, Mr. McCawber, shared his view of household debt:

“Annual income twenty pounds, annual expenditure nineteen and six, result happiness. Annual income twenty pounds, annual expenditure twenty pounds ought and six, result misery.”

This observation became so popular in real-world financial circles that it became known as the “McCawber Principle.” Spending more than your income results in misery in today’s world just as it did in McCawber’s day. Although only rarely referred to by that name these days, the principle is still the rock foundation of credit counselling.

When the subject of out-of-control spending and debt problems comes up, we tend to think first of government — and for good reason. Federal, state, and city governments provide ample evidence of their repeated violation of the McCawber Principle. Out-of-control spending and unprecedented levels of public obligations seem to be today’s norm rather than exceptions.

With government’s example, is it any wonder that households so often get into debt misery?

The Federal Reserve Bank of New York keeps an eye on household finance and has just issued its report for the first quarter of 2018. Entitled “Household Debt and Credit,” it presents a generally positive picture of American households’ financial position … but it isn’t totally rosy. While households are finally shaking off the effects of the Great Recession there are still some things to be concerned about.

According to the report, median household debt increased in first quarter, making 15 consecutive quarters of gains. Total household debt at the end of first quarter was $13.21 trillion. Mortgage debt, the largest single component of that total, rose $57 billion. That was to be expected because of the convergence of a continued strong housing demand and higher interest rates. Credit ratings for new borrowers have risen, also. This could be a sign of flagging demand, but it is more likely that higher interest rates are driving marginally qualified buyers from the market. Housing demand still appears to be strong enough to outpace housing supply. However new mortgages will probably see increasing resistance to higher interest rates.

Home equity loan balances declined, as did credit card debt, but the sharp growth in two sectors — student loans and auto loans — more than offset the declines.

Mortgage delinquency rates also continued to improve. And what is particularly encouraging is that homeowners whose mortgages had drifted into what bankers call the “early transition to delinquency” stage have been able to turn their payment picture around and improve their loan status.

Auto loans, though, are not enjoying an improved loan delinquency picture. The delinquency rate on these loans increased to 4.3 percent, suggesting that demand for automobiles is softening and dealers are approving more marginal buyers to maintain sales levels.

The student loan situation is perhaps the worst of all. These loans are still being made — student loan balances rose by $29 billion in the first quarter to a new total of $1.41 trillion. Of that total, 10.7 percent are delinquent, and, because so many are in deferral status or grace periods and other categories the real delinquency rate may be as much as twice as high.

Despite the student loan mess, which has been building for years, the New York Federal Reserve Bank’s report presents a portrait of American households in generally good health and improving their financial position.

The latest report from the Federal Reserve Board in Washington, D.C., though, presents a very different picture. While it also shows improvement, notably in the percentage of people who say that “they are doing OK” financially, the remainder — who are not doing OK — is still a sobering number. At the end of 2017, the end date for this report, 74 percent are doing OK now, compared with only 64 percent in 2013.

Liquidity remains a big problem. The report notes that “40 percent still say they cannot cover a $400 emergency expense.” And fewer than that believe that their savings are on track for retirement.

The data indicates that in 2013 a third of our population was being left behind by the anemic recovery of our economy. The reduction of that number by 10 percent is most welcome, surely, but not enough.

Overall, both reports clearly link the improving financial picture for Americans to our robust economy and, especially, its effect on the jobs market. And the takeaway from these reports, considered together or separately, is that wise economic policy is the key to sustaining this economy. That will be difficult to implement in the face of the political power of two habit-forming intoxicants; taxation and debt-based public spending. But a quarter of us are still being left behind. Our economy still has work to do, and so do we.

James McCusker is a Bothell economist, educator and consultant.