One of the lessons we needed to learn from the Great Recession was that debt matters. And so began, we hoped, a period of economic deleveraging in which the total debt levels of our society would decline. This is never an easy process, but it is a necessary one.
How are we doing?
Households have shed $1.5 trillion of mortgage debt, not all voluntarily I’m sure, and modestly increased consumer and auto loan debts. The result has been a reduction of household debt from 98% to 80% of total economic output (GDP). But for every percentage point we’ve cut, we added more than 1% to our public (Federal Government) debt load relative to economic output.
One benefit of households deleveraging is the creation of free cash flow. Household financial obligations as a percent of disposable income have declined from a historic high of over 18% to below 15.5%, creating more free cash to further accelerate debt payments, increase savings, or meet other needs.
The process of deleveraging has barely begun, and we are likely to experience economic and market disruptions along the way as we address the challenges that have been created during the past couple of decades. Households that are ahead of the debt-reduction curve will be better positioned with their resources and cash flow to take advantages of opportunities as they come up.
Now would be a good time to track your own debt ratios and ensure you are ahead of the game.