Policy Documents

Consumer and Mortgage Credit at a Crossroads: Preserving Expanded Access while Informing Choices and Protecting Consumers

Eric S. Belsky and Ren S. Essene –
February 26, 2008

Americans are no stranger to debt. In 2004, 76.4 percent of all households reported some form of borrowing. Fully 46.2 percent of all households had at least one person with a credit card balance, 48.0 percent with a mortgage loan or line of credit, 39.5 percent with an auto loan or lease, 13.4 percent with a student loan, and 19.3 percent with some other form of lending. The proportion of Americans that have carried each of these forms of debt at some point over their life cycle is likely even higher. 

Taken together, the secured and unsecured debt load of consumers has escalated considerably and access to debt among many of those previously denied credit has rapidly expanded. Consumer debt levels and debt payment obligations may be measured in several ways, both at the macroeconomic and microeconomic levels. However, important differences may be found among these measures and their interpretation. Debt-to-income ratios (debt levels to income) at both the aggregate and household levels have increased faster than debt service ratios (debt payments to income) since 1989. One simple reason for this growing divergence is that real interest rates fell sharply from 1998 to 2004, and have not come close to returning to 1980s and 1990s levels. It costs less, therefore, to service an equivalent amount of debt (Dynan, Johnson and Pence 2003). Yet, by all measures Americans are awash in debt as never before.

Beyond decreasing interest rates, explanations for the rising tide of debt run a wide gamut.  Expanded access to credit in general, and mortgage credit in particular, is usually singled out as an important contributor to increasing debt service ratios. The relaxation of constraints on maximum permissible debt-to-income ratios also figures prominently. Indeed, several studies show that the intensity of credit constraints (such as willingness to lend as measured by surveys) and the size of the credit supply are strongly correlated with consumer credit growth and consumption expenditures (Japelli and Pagano 1989; Antzoulatos 1996; Baccheta and Gerlach 1997; Ludvigson 1999; Maki 2000). Some argue it is the real rate of growth of the cost of some big ticket items, such as housing and education, which forces households to borrow more to maintain a fixed standard of living.  Yet, others blame the profligate consumer or today’s consumer culture for increased consumption and debt. 

The perceived implications of the increase in debt range from the highly positive to the highly negative.  On the positive side of the ledger, the increase in debt has been accompanied by an even larger increase in asset holding so that total net worth has grown along with total debt.  Furthermore, the credit delivery system that made the expansion of credit possible has been widely viewed—especially until the crisis in credit markets beginning in the summer of 2007—as compelling evidence that innovations in the lending industry and the capital markets have successfully led to broader access to lower-cost credit, greater consumption, and increased investments in housing than ever before.  In addition, several have found that growth in consumer credit is associated with growth in consumer spending and is therefore a plus for the economy (Antzoulatos 1996; Bacchetta and Gerlach 1997; McCarthy 1997; Ludvigson 1999). While delinquency rates of consumer loans have only a modest direct effect on consumer spending, they may have a possible indirect effect on credit access (Garner 1996; McCarthy 1997; Maki 2000).