Building Down the U.S. Consumer Society

(MoneyWatch)  By now Americans hardly need reminding that, in the aggregate, they bought too much stuff over the last 10 years, and that it was unwise to rely so much on borrowed money. Economists are starting to reckon what it's going to cost to unwind it all and get the U.S. economy on a more productive track, and they're finding it's going to be a long and difficult job.

The portion of GDP that comes from consumer spending has been on a long, slow uptrend for many years: from 62 percent in 1965, to 67 percent in 1995, to 70 percent in 2001 through today. The eight percent increment that shifted over time into the consumer economy is worth about $1 trillion per year at current prices.

Over the long term, the last 20 years, both disposable personal income (DPI) and personal consumption expenditure (PCE) have grown at about five percent per year. Spending has grown a little faster, though, creating the downtrend in our national savings rate.

The turbocharger, however, has been consumer debt, shown by the green line in the graph below, and which has grown at nearly eight percent annually for the last 20 years, and nearly nine percent in the last 10. Consumer debt now totals 130 percent of annual income.


Looking for an informative example on what adjustments the U.S. might face, economists Reuven Glick and Kevin Lansing of the San Francisco Federal Reserve looked at the experience of Japan during the 1990s. Like the U.S., they note, Japan went through a stock market and real estate bubble, as well as excessive borrowing, albeit by the small business sector, which built up its IOUs to 125 percent of GDP. By cutting back on business investments, corporate Japan was able to build the debt down to 95 percent over 10 years. Glick and Lansing write:

If U.S. households were to undertake a similar deleveraging, their collective debt-to-income ratio would need to drop to around 100% by year-end 2018, returning to the level that prevailed in 2002...

Assuming an effective nominal interest rate on existing household debt of 7%, a future nominal growth rate of disposable income of 5%, and that 80% of future saving is used for debt repayment, the household saving rate would need to rise from around 4% currently to 10% by the end of 2018. A rise in the saving rate of this magnitude would subtract about three-fourths of a percentage point from annual consumption growth each year, relative to a baseline scenario in which the saving rate did not change.

"It's very difficult to deleverage through savings alone," Lansing told me. "You have to really ramp up the savings rate, and slow down consumption growth at the same time. Of course the debt could come down faster if people defaulted, and to some extent that's happening too."

If consumers can succeed at saving more and buying less, where does the growth occur in the economy? "In the 1980s we had a much smaller current account deficit, because we were importing less and exporting more. If the burden of consumption is put on foreign consumers, then our exports will go up, and that's a source of growth."

Maybe, I suggested, the U.S. should be sending bales of economic stimulus overseas, to foster other countries' consumption and benefit our export industries. Lansing found the idea novel, but did not think it politically viable.

With less going to consumption, more GDP would be devoted to government spending -- that's already happening. "The other possibility for growth is investment, but firms are not going to find investment attractive if their sales volumes are declining due to a slowdown in consumption," Lansing added.

"If there is an increase in savings and a drop in consumption, you'll see slower GDP growth, relative to where we were in 1995 through 2005." (Real GDP growth averaged 3.2 percent in those years.) "The growth rates we saw then were artificially boosted by that consumption boom, which was financed by debt. That's not going to be achievable going forward."