The Bankruptcy Debate: Interest Costs Have RISEN, Despite Falling Rates (Followup…and Debt Balances are MUCH Higher)

THE PREVIOUS POST showed, based on the Federal Reserve graph from this Marketwatch column (link requires registration), that interest costs have gone up substantially in the past 10 years despite falling interest rates:

I concluded that this shows that “amounts borrowed have simply gone through the roof in the past 10-plus years…..more than offsetting the impact of interest-rate reductions, meaning that households ARE NOT in about the same position as they always have been, as proponents claim.

A quick example will show you why this is so:

The above uses a person or family with annual disposable income of $40,000 in 1994. A disposable income with roughly the same purchasing power would be $50,000 in 2004.

I multiplied each disposable income by the related interest expense percentages on the Federal Reserve/Marketwatch graph. I then divided each interest expense amount by a rough estimate of what average interest rates would have been at the time, assuming only a 2-point differential between 2004 and 1994 rates, to arrive at Estimated Debt Balances. What this tells us is how much debt a person had to be carrying in each year to have the indicated amount of interest expense.

NOTE: I suspect that the interest rate differential is closer to 3%, but wanted to be conservative. I’m very confident that the differential is NOT less than 2%, because the average rate on 30-year mortgages was 7.75% at the end of 1994 and 5.71% at the end of 1994, rates on installment loans have dropped like a rock because of car-dealer incentive rates, and overall credit card interest rates have dropped a bit (with the lower rates mostly going to “desirable” cardholders).

The Estimated Debt Balance in 2004 is not too far from double that of 1994 (50% or so after adjusting for inflation, for those who wish to quibble).

As noted in the previous post, we can debate whether the increase constitutes a “drowning in debt” scenario (and the research on that continues). You could also dispute the average interest rates I used, but if anything they’re high–If I had used 9% and 7%, the results would have shown an even bigger percentage jump in the Estimated Debt Balance. But the proponents of bankruptcy “reform” should at least stop promoting the fantasy that the average person or family is in about the same shape as they were 10 years ago. They just aren’t.