MianSufi Summary Nov2011 Public

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Household Balance Sheets and the Weak Recovery

Amir Sufi

University Chicago Booth School of Business and NBER

(work with Atif Mian, UC Berkeley and NBER

Kamalesh Rao, MasterCard Advisors)

November 2011



The Argument

• Weakness in household balance sheets is the primaryreason for the weak U.S. economic recovery

2

2 . 2 Household debt to income ratio

5 0

2 0 0 House prices

1 . 2

1 . 4

1 . 6

1 .

5 0

1 0 0

1

1990q1 1995q1 2000q1 2005q1 2010q1 1990q1 1995q1 2000q1 2005q1 2010q1

1

U.S. retail sales

6 4

Employment to population ratio

. 2

. 4

. 6

. 8

6 0

6 2

0

1990 1995 2000 2005 2010

5 8

2001q3 2004q1 2006q3 2009q1 2011q3



How Do Weak Household Balance Sheets Generate

• Models have three critical ingredients:

1. Before recession, heterogeneity across households inbalance sheet strength/leverage

• Geographic variation in household debt growth from 2002 to 2006

2. A shock to household balance sheets leads to sharpdrop in consumption by “levered” households

• Collapse in house prices in 2007, financial crisis of 2008

“ ”

.up slack



How Do Weak Household Balance Sheets Generate

• Models have three critical ingredients:

1. Before recession, heterogeneity across households inbalance sheet strength/leverage

• Geographic variation in household debt to income as of 2006

2. A shock to household balance sheets leads to sharpdrop in consumption by “levered” households

• Collapse in house prices in 2007, financial crisis of 2008

“ ”.up slack



Geographic Variation in Household Debt, 2006

• There was a tremendous amount of variation across theU.S. in household debt to income ratios as of 2006

• This was mostly driven by where the housing boom waslargest

• For example, California had a household debt to income.ratio of only 2.0

• e use coun y- eve var a on n ouse o e o ncomeratios as our measure of household leverage

• Our research uses housing supply elasticity as an

instrument for household debt to income ratio



House Price Shock

Hi h/Low Deciles of Household Levera e 2006

1

House prices

. 9 i c e s

1 i n 2 0 0 6 )

. 8

H o u s e p r

o r m

a l i z e d t o

. 7

(

High leverage/inelastic counties, 2006

Low leverage/elastic counties, 2006

• See Mian, Rao, and Sufi (2011) for more details



Consumption Declines:

Hi h/Low Deciles of Household Levera e 2006

1 . 2

1 . 4

s i n 2 0 0 6 )

Auto Sales

1

1 . 1

h a s e

i n 2 0 0 6 )

Durables

. 6

. 8

1

A u t o s a l

( n o r m a l i z e

d t o 1

. 7

. 8

. 9

D u r a b l e p u r c

( n o r m a l i z e d t o 1

1 . 1

1 . 2

s i n 2 0

0 6 )

Groceries

1 . 1

1 . 2

u r c h a

s e

i n 2 0

0 6 )

Non-durables, non-grocery

. 8

. 9

1

G r o c e r i

( n o r m a l i z e d t o

2005 2006 2007 2008 2009 2010

. 8

. 9

1

N o n - d u r a b l e p

( n o r m a l i z e d t o

2005 2006 2007 2008 2009 2010

High leverage/inelastic counties, 2006

Low leverage/elastic counties, 2006

• See Mian, Rao, and Sufi (2011) for more details



Auto Sales, through 2011Q3

1 . 5

Auto sales through 2011Q3

1 2

0 0 6

. 5 o r m a

l i z e d t o 1 i

n

2006q2 2007q2 2008q2 2009q2 2010q2 2011q2

High leverage/inelastic counties

Low levera e/elastic counties



Debt Pla s an Im ortant Role1. Delinquency and foreclosure effects

2. Deleveraging, even among those that don’t default

.

4. Inability to refinance into lower rates

• Bottom line: we believe that drops in consumption are toolar e to be ex lained onl b house rice rowth or

expectations shocks

• , ,



Em lo ment• Major negative shock to consumption in high leverage

counties

• How does this affect employment?

• Difficult because goods consumed in high leverage

areas are produced throughout country• an an u 2011 ea: separate emp oyment nto

jobs catering to local versus national consumption• Evaluate “local” em lo ment, use estimate to back out

aggregate effects

•explains 65% of job losses from 2007 to 2009



Employment Growth Across Counties, 2007 to 2009 . 2

1

Non-tradable (excluding construction) . 2

Tradable

. 1

t G r o w t h 0 7 Q

1 - 0 9

s t r u c t i o n )

0

r o w t h 0 7 Q 1 - 0 9 Q 1

- . 1

0

a d a b l e E m p l o y m e

( e x c l u d e s c o n

- . 4

- . 2

a b l e E m p l o y m e n t

- . 2

N o n - T r

1 1.5 2 2.5 3 3.5 4 4.5 5 5.5 6Debt to income, 2006

- . 6

T r a d

1 1.5 2 2.5 3 3.5 4 4.5 5 5.5 6Debt to income, 2006

• Note: Non-tradable employment excludes construction—



Bottom Line

• High levels of household debt led to sharp pull-back inconsumption when house prices collapsed

• Geographic variation in consumption and non-tradableemployment suggest a large fraction of declines can beexplained by this channel

•

• Happy to entertain other theories, but the across-county

ev ence s a severe res r c on on o er ypo eses



Citations

• Our work:

• Mian, Rao, Sufi, 2011. “Household Balances Sheets, Consumption, and the Economic Slump,” WP,2011

• Mian, Sufi, 2011. “What Explains High Unemployment? The Aggregate Demand Channel,” WP, 2011

• Other work:

• Eggertsson, Gauti and Paul Krugman, 2011. "Debt, Deleveraging, and the Liquidity Trap," FederalReserve Bank of New York Working Paper, February.

• Guerrieri, Veronica and Guido Lorenzoni, 2011. "Credit Crises, Precautionary Savings, and theLiquidity Trap," Chicago Booth Working Paper, July.

• Hall, Robert E., 2011. "The Long Slump," American Economic Review 101: 431-469.

• Midri an Vir iliu and Thomas Phili on 2011. "Household Levera e and the Recession " NYU

Stern Working Paper, April.

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