The focus on Household Debt

It's almost like a ten-year anniversary: There is a lot of looking back on the 2008 crisis, a lot of pondering what might have been the core of the problem, and a lot of well-argued but incorrectly focused thought.

Happy anniversary.

In Rebuilding macroeconomics: Initial reflections on a major theory project, Konstantinos Efstathiou at Bruegel describes the view expressed by Paul Krugman:

For him, the failure to see the crisis coming does not pose a “deep conceptual issue” for economic models: it was not a lack of understanding of the possible mechanism” but a lack of attention to the right data” (e.g. overlooking institutional changes in the financial sector, the rise in household debt and looking at house-price growth in the aggregate rather than at a more local level).

The core of the problem, as Krugman sees it? The rise of household debt, the institutional changes that enabled it, and the rising price of houses that resulted from it. The problem for Krugman is household debt.

Krugman is not alone. A couple years back, Dirk Bezemer and Michael Hudson offered a "conceptual" argument:

Loans to non-financial business for production expand the economy’s investment and innovation, leading to GDP growth...

Like loans to non-financial business, household consumer credit provides the purchasing power and the effective demand for GDP to grow. But compared to business loans, it [leads to] less growth for the same loan amount, and more financial fragility.

In other words: Loans to consumers are not as good as loans to producers. It's the old "good debt vs bad debt" argument. The bad debt, as Bezemer and Hudson see it? Household debt.

They also studied "the growth effect of credit over time." They found the growth effect declining since the '80s, and "not significantly different from zero" since the '90s:

Credit was no longer “good for growth,” as many had for so long believed ...

A major reason for this trend was that credit was extended increasingly to households, not business.

My response: I hate arguments like that. Dangerous arguments. Arguments that make so much sense you think you don't need to look at the data.

Pushing the envelope, Bezemer and Hudson suggested that household borrowers crowded out borrowing by non-financial businesses:

While the total credit stock expanded enormously in the 1990s and 2000, credit to nonfinancial business was stagnant at about 40 percent of GDP, while its share in overall credit plummeted. By contrast, the share of household mortgage credit issued by banks rose from about 20 to 50 percent of all credit.

But it seems they lacked the evidence and the nerve to make that suggestion explicit.


In writing this post I came upon a remark yesterday that rang a bell in my head today. Of course, I can't find the article I was reading. But the guy said it was Mian and Sufi's book that focused everyone's attention on household debt.

Bezemer and Hudson are focused on household debt, for sure. But I'm not comfortable with their work. So after giving up the search for the article I read yesterday, I went searching for reviews of Mian and Sufi's book. This Google hit set me in the right direction:

"The government should have focused more on homeowner debt, and less on banks."

Well, yeah. But that's not what I read in Bezemer and Hudson. What I read there is that household debt is nonproductive and therefore "bad" and we shouldn't ever let it accumulate like that again. They're talking about what we can do to avoid this problem, next time. They are fighting the last war, the "excessive household debt" war.

What I read in the Google hit is entirely different. They're talking about what we should have done to fix the problem that now, ten years later, we hope we've recovered from. They're not trying to fight the last war. They are trying to understand how the economy works: The right way to recover from the crisis would have been to focus on reducing homeowner debt. Focus on the toxic liabilities of homeowners, rather than on the "toxic assets" of the banks. I went to the link.

Binyamin Appelbaum, 16 May 2014, NY Times: The Case Against the Bernanke-Obama Financial Rescue. Here is the opening:

Atif Mian and Amir Sufi are convinced that the Great Recession could have been just another ordinary, lowercase recession if the federal government had acted more aggressively to help homeowners by reducing mortgage debts.

Exactly: The money they used for QE -- they should have taken that money and used it to pay down debt for people. Pay down the toxic liabilities, make them non-toxic and make the toxic assets non-toxic at the same time. The money would have ended up in the same hands anyway: the hands of the creditors. And the liabilities that drag us down would have been lightened.

Isn't it obvious?

// A brief look at the data tomorrow.