The Economy is Like a Bad Cold

Like a persistent cold, depressing news about the economy never seems to go away. Unemployment rates remain high; businesses still are not hiring; and policymakers continue to blame each other for our economic ails without actually addressing what more and more economists are identifying as the source of the sluggish economic recovery: household debt.

To give some perspective to the country’s household debt crisis, household debt has skyrocketed from $4.6 trillion in 1999 to a current $11.5 trillion. Additionally, in 2007 the ratio of U.S. household debt to GDP rose to 130%, a level not seen since the start of the Great Depression; the ratio has since fallen to 118%, but is still far from spectacular since it means that American households now have 1.18 times more debt than the country’s entire gross domestic product!

These extraordinary debt levels, combined with the other challenges facing the housing market Minnesota 2020 has identified, have created a vicious cycle of declining consumer demand, which decreases production and the number of new workers businesses are willing to hire, which further decreases consumer spending and makes businesses even more reluctant to hire new workers.

Despite the prominence of this negative feedback cycle, the ideological solutions being championed by both the right and the left continue to dance around the source of the problem—the recovery is not sluggish because the government is too large or because it is not spending enough on social services; it is sluggish because millions of Americans still have underwater mortgages (i.e. they owe more than the value of the house) from the collapse of the housing market.

Back in 2008 the federal government tried to create a mortgage relief program to assist 400,000 households drowning in debt; however, the secretary of Housing and Urban Development declared the program a “failure” after only 312 applications were filed between October and December 2008. This failure does not mean that government interventions in the credit market are doomed to fail, since the government has taken emergency measures in the past to revive an American economy flooded with debt, such as during the Panic of 1819 when state governments passed debt moratoria laws after the price of cotton collapsed.

According to a Brookings Institute Senior Fellow, the government would need to spend $1.5 trillion in a debt reduction program to lower the household debt to GDP ratio from 118% to the pre-housing bubble ratio of 100%. Unfortunately, due to this huge price tag, the lack of political will, and the complex financial system that has developed over the last few decades, prospects of debt relief from either the state or federal government are very grim. This situation is “unfortunate” because if neither side takes the initiative to address the household debt crisis, then we could face at least another 4 or 5 years of sickly economic growth.

Posted in Economic Development | Related Topics: Economic Growth  Housing Market  Economic Recession  Economic Recovery  Personal Finance 

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