How Much Debt Is Too Much Debt?

Someone called me today, his wife laid off a couple months ago,

How much debt is too much debt?
Stop before you have too much debt.

and she cannot pay her credit cards on unemployment.

More Debt Than You Can Pay Is Too Much

Well, yes.  But that is a little late to find out.  Bankruptcy should be a last resort.

Most growing economies have citizens who save a large amount of their income.  We have gone away from that. Way far away.

Jobs do not last as long as they used to.  Most advisers say you should have at least one, maybe 6 months of expenses saved up, for emergencies, aside from retirement or college savings for kids.

Switching from saving for college to borrowing has been a big development.

And households today are borrowing differently than they did nine years ago. Student loan debt, driven by soaring tuition costs, now makes up 11 percent of total household debt, up from 5 percent in the third quarter of 2008.

Why some folks think this is good news, beats me.

Americans have now borrowed more money than they had at the height of the credit bubble in 2008, just as the global financial system began to collapse.

The Federal Reserve Bank of New York said Wednesday that total household debt in the United States had reached a new peak — $12.7 trillion — in the first three months of the year, another milestone in the long, slow recovery of the nation’s economy.

What could go wrong?

In your financial planning, remember that student loan debt is still difficult to get out of, even in bankruptcy.

So, that 5% change, the increase in the percentage of debt that is student loans, matching the decrease from 73% to 68% that is mortgage debt, is not good.

“Economists” rave about increased consumer spending driving the economy.  What about investment for capital goods, as they used to be called, e.g. oil pipelines and so on?  That spending comes from saving.

And this spending increase is from borrowing, not from increased income, which could fuel both more spending and more saving.

The fear is that ballooning debt from student loans — and from auto loans and credit cards — could put many Americans back into a hole, prompting a new wave of defaults, much like the one that accompanied the mortgage meltdown a decade ago.

“This is not a marker we should be superexcited to get back to,” said Heather Boushey, the executive director and chief economist at the Washington Center for Equitable Growth, a liberal think tank. “In the abstract, more debt signals optimism. But in reality, families are using debt as a mechanism to pay for things their incomes don’t support.”

This is a more logical response.

Debt going up because student loan debt is up astronomically is not good for the economy.

The health of mortgage debt has to be measured against the value of the residences that are collateral for the debt.  As the real estate bubble was inflating, we were told don’t worry, housing values keep going up, so this is not a problem.

Until it is.

We already know that college degrees are not worth what they used to be, thought they cost many times more than they used to.

Less Debt Than You Think

Is the answer.  Try saving for items and paying cash instead of borrowing.  Save 20% of your income before you borrow anything.  Don’t borrow from 401(k) or other retirement accounts.

So that you don’t have to call me when the next bubble bursts.

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