Our Economic House of Cards

August 16, 2004 | Hartford Courant |

The Federal Reserve just announced the second interest rate hike in two months, and households across the nation are bracing for impact. More than 50 million adults are in credit card debt, an economic problem that causes stress and, at its worst, financial ruin. It helped drive the refinancing boom, as families cashed out equity at record levels. Most people would be stunned to learn that more children will now suffer through their parents' bankruptcy than their parents' divorce. The rise in household debt spells trouble for our families and the economy.

Almost two-thirds of the economy is driven by consumer spending, so any economic recovery hinges on Americans buying, buying and buying — whether its homes, groceries or prescription drugs. But in this fragile economy characterized by slow wage growth, rising costs and job instability, American families are keeping the consumption engine humming by taking on more and more debt. Some economists are concerned about the sustainability of an economy that's literally built on a house of cards. We should also worry about how households will cope with rising rates and swelling debt payments.

The picture of debt in this country mirrors the overall trend toward greater economic inequality. During the big boom of the 1990s, upper-income families accumulated massive new wealth through capital gains in the stock market. Meanwhile, average working families had exactly the opposite experience: Pinched by stagnant real wages and rising living costs, they were able to save less and less, and began borrowing to make ends meet. While the rich were getting fat returns on their investments, the rest of Americans were paying interest charges just to keep the household running.

At the end of 2003, families owed more than $750 billion in credit card debt - an average of $12,000 per indebted household. Demos' analysis of Federal Reserve data show that between 1989 and 2001, middle-class families saw their credit card debt increase by 75 percent. The lowest-income families' card debts grew by a whopping 184 percent during the decade. And overall debt levels recently rose above annual disposable income for the first time ever. Spikes of this level incite the question Why are so many families going into debt?

It is not that Americans are spending willy-nilly. Unfortunately, the problem is much deeper and harder to solve than bad spending habits. The increased debt levels of low- and middle-income families are symptoms of greater economic problems facing our society. Over the past decade, the average family has seen dramatic increases in health premiums, housing costs, college tuition and child care. But wages haven't risen as fast and are now declining for many workers. The new decade brought about a recession, rising unemployment and state funding cuts - a triple whammy for the already struggling middle class.

Today's working families are using credit cards to plug the hole between their costs and their incomes - and then transferring that debt to their mortgage, putting their home at risk if hard times return.

As families have become more economically vulnerable, the credit card companies have responded by bilking customers with escalating rates and fees that push balances upward - making it near impossible for families to get out of debt. More and more households are falling behind on their credit card bills, with delinquencies steadily rising over the past three years. More than 1.6 million households collapsed financially last year, an 11 percent increase since 2001 and more than double the bankruptcies in 1990.

Should we be worried? According to Federal Reserve Chairman Alan Greenspan, absolutely not. Households financial balance sheets are still healthy, despite the warning signs of rising bankruptcies, delinquencies and continued growth in credit card debt. In a speech in February, Greenspan actually argues that the surge in mortgage refinancing likely improved rather than worsened the financial condition of the average homeowner - allowing households to pay off more expensive consumer debtor to make purchases without using more expensive types of credit.

It's hard to argue with the most famous and powerful economist in the nation, if not the world. But if you venture beyond the statistics, you'll learn that families are overwhelmed by their debt and scared for their futures. After a decade of building up debt, they're worried that the next time a spouse gets laid off, the car breaks down or a child gets sick, their safety net will finally break. That's the real truth about household debt in America.

Tamara Draut is director of the Economic Opportunity Program at Demos, a progressive think tank in New York. This article was distributed by Knight Ridder/Tribune Information Services.

 

Almost two-thirds of the economy is driven by consumer spending, so any economic recovery hinges on Americans buying, buying and buying — whether its homes, groceries or prescription drugs. But in this fragile economy characterized by slow wage growth, rising costs and job instability, American families are keeping the consumption engine humming by taking on more and more debt. Some economists are concerned about the sustainability of an economy that's literally built on a house of cards. We should also worry about how households will cope with rising rates and swelling debt payments.