Ten years ago, the collapse of Lehman Brothers signaled that the U.S. was hurtling toward a financial crisis. In the years that followed, consumers faced difficulty managing debt as the economy contracted, unemployment accelerated and incomes stagnated. The Federal Reserve enacted extraordinary monetary policy to stem the decline, lowering interest rates to near zero to ease the burden of debt and buying securities to support the credit markets.
These actions, along with initiatives from the Department of the Treasury, helped borrowers and lenders weather the Great Recession. Treasury, with other regulators, created programs to assist borrowers with their mortgage debt, including homeowners who found themselves "underwater" -- owing more on their mortgage than their homes were worth -- as home prices fell. Congress crafted more stringent capital rules to shore up banks.
So where are we 10 years later?
- Consumer debt has increased to levels higher than those prior to the crisis. This is offset by an increase in personal income, though such gains have been sluggish by historic standards.
- U.S. consumers have a lower debt ratio. Americans have improved their financial condition as debt levels fell to 80 percent of GDP from a peak of 99 percent at the start of the crisis in 2008.
- Delinquency rates are down. From a high of 10 percent of mortgages in 2010, now just 4.36 percent of mortgages are delinquent. Credit card delinquencies are down to 2.47 percent from 6.77 percent in 2009. The one area of concern is subprime auto loan delinquencies, which are now higher than before the crisis.
- The debt service ratio is down. The portion of income borrowers use to service debt, is now 10.21 percent, down from a high of 13.22 percent in 2007. However, this is up from a low of 9.89 percent in 2012 as consumers have added some debt since then.
Consumers are set to further improve, or at least sustain, their favorable financial condition because of the recently enacted Tax Cut and Jobs Act. Although most of the benefits will float to the higher-income brackets, there should be some improvement in aggregate consumer finances.
However, those tax breaks come with a cost: a deteriorating fiscal position for the U.S. government. The Congressional Budget Office's long-term budget outlook, released in June 2018, reveals an unprecedented accumulation of federal debt.
- Path to $100 trillion: Under the new baseline incorporating recent changes in law, the national debt reaches $99 trillion in 2048 -- equivalent to 152 percent of GDP.
- Trillion-dollar deficits: The federal budget deficit is expected to break through a trillion dollars in 2020 and never look back, reaching $2 trillion in 2032 and $6 trillion in 2048.
These projections indicate that federal budgets will be under significant pressure. Underlying these projections is the assumption of continued favorable interest rates, and notably, no recessions are modeled in the projection period. Adverse real-world events could result in poorer fiscal outcomes.
This creates risks, and not only for the government -- consumers could confront financial challenges as a result, too.
Consumers are likely to be hit with higher taxes in the future as the government faces up to its fiscal responsibilities and seeks more revenue. Plus, under the new tax law, the sunset portions scheduled in 2026 mostly affect individual taxpayers, not corporations. And higher deficits and federal debt levels could lead to rising rates on government debt, which would raise the rates consumers pay on their borrowing.
Both these risks would reduce consumers' ability to manage their debt.
So 10 years after the collapse of Lehman Brothers, consumers are in better shape regarding their debt. And although current policy suggests further near-term improvement, it comes at a price: An increasing the risk that federal debt could precipitate a new crisis.
Tendayi Kapfidze is chief economist of LendingTree. He oversees the online lending exchange's analysis of the U.S. economy with a focus on housing and mortgage market trends.
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