The current government crusade against consumer credit is one of those deceptive political and media events in which up is down, backwards is forwards and the obscure, complicated truth gets lost in the press releases. Contradictions abound. Sensible economic changes are politically impractical, but the political necessity to "do something" -- in the name of fighting inflation -- remains strong. So silly policies result: confusing regulations to curb a small amount of consumer borrowing, symbolized by credit cards.
Anyone who believes credit cards have much to do with the nation's inflation probably also thinks you can get to China with a pick and shovel. Although there are probably more than 500 million cards -- an average of six or seven for every household in the country -- they are as much the product of technology, (computerized billing systems and nationwide credie checks) as inflationary psychology. They are as much a substitute for cash and checks as they are a new means of borrowing. Credit card debt is less than 5 percent of total consumer debt.
No, the real problem lies elsewhere and reflects government policies deeply embedded in popular views and values. Driven by a passionate attachment to the single-family home, government policy for four decades has sought -- largely successfully -- to keep mortgage credit cheap.
Mortgage rates were held down by interest rate ceilings on saving accounts that provided mortgage funds. New government-created agencies, such as the Federal National Mortgage Association, borrowed at low rates and put their funds into housing. Mortgage interest payments remained tax-deductible. Taken together, these subsidies encouraged people to buy bigger houses, contributing strongly to the explosion in housing prices and in the demand for mortgage credit and interest rates.
Correcting these distortions meant doing something about this subsidy system. To some extent, it's already crumbling, because the interest rate ceilings on consumer savings are becoming increasingly ineffective. Just last month, Congress voted to phase them out over six years. But a second prop to the system is the allowable tax deduction for mortgage interest rates. As tax rates and interest rates climbed in the 1970s, this became increasingly valuable.
Part of the skill of political leadership is using crises to make changes that would otherwise be impossible, but the Carter Administration isn't touching the tax deduction. Yesterday's practices create today's constituencies. The main beneficiaries have been those who get the biggest implicit subsidies -- mainly the upper middle class -- or those old enough to get the subsidies early. Limiting the deduction now would impair their home values; it's not an election-year move. So we are stuck with a system that artificially inflates consumer credit demand.
Not that consumers have gone on the wild borrowing binge portrayed by the conventional wisdom. At the end of 1979, consumer debt repayments average 22.6 percent of disposable (after-tax) income, which is only slightly higher than the 21 percent at the end of 1971.
The over-all figures, of course, don't reflect individual experience. Having repaid most of their mortgages, some families don't have much debt; for many younger families, mortgage and installment debt repayments may total 30 to 40 percent of disposable income. But, as the following table indicates, a disproportionate share of the increase since 1974 in household debt occurred in mortgages (the table is in billions of dollars). (TABLE) (COLUMN)(COLUMN)(COLUMN)Percent (COLUMN)1974(COLUMN)1979(COLUMN)change Mortgage(COLUMN)$464.6(COLUMN)$875.9(COLUMN)88.5% Other(COLUMN)258.2(COLUMN)451.0(COLUMN)74.7 Total(COLUMN)722.8(COLUMN)1,326.9(COLUMN)83.6(END TABLE)
The rise in mortgage debt reflects not only "baby boom" children looking for homes but also simple self-interest. Economist Martin J. Feldstein, president of the National Bureau of Economic Research, has repeatedly pointed out that the interplay of inflation and the tax deductibility of interest payments made borrowing virtually costless.
Consider his example. At the beginning of 1979, a couple with $30,000 income had a marginal tax rate of 37 percent. The deduction reduces the couple's taxes, making the actual interest costs on a 10 percent mortgage only 6.3 percent. If inflation averages that for the next 10 to 15 years, the loan would effectively be interest-free.
Compared with the past, 10 percent seemed high, and the Federal Reserve Board thought it was conducting a "tight" money policy. In fact, as Feldstein argues, money was "easy" and promoted borrowing. While families got smaller in the 1970s, new homes got bigger. Princeton economist Harvey S. Rosen has estimated that the tax subsidy alone may have increased the size of an average home by about one-sixth. All this means more land, more timber and more money going for fewer homes -- an inherently inflationary situation in face of the baby boom's housing demand.
But old subsidies beget new ones. The compounded effect of exaggerated housing demand is pricing more families out of the market and, ironically but not illogically, leading to demands for more government assistance so that they can get back in. More and more proposals are surfacing for below-market interest rates for mortgages for middle-class families.
A further side effect is to put political pressure on other forms of credit: hence the Fed's restrictions on new, unsecured borrowing. That includes credit cards and amounts to about a sixth of total consumer debt. The White House and the Fed lacked the political gumption to eliminate the 12 to 18 percent state interest rate ceilings on these loans, which have kept this credit cheap. Instead, lenders must now set aside a 15 percent "reserve" for any new loans they make. consequently, banks and other creditors will try to discourage new lending. All this will mean arbitrary restrictions on some consumers, frustration for businesses that have to comply and more fees for lawyers. So what else is new?