Digging out from debt exacts a toll on economy

The Federal Reserve Bank of New York reported yesterday that Americans have reduced their debt by almost $1 trillion in the past 21 months.

Depending on your perspective, this household "deleveraging" is:

•Good, because a thrifty person is always more virtuous than a spendthrift.

•Bad, because two-thirds of the United States economy depends on consumer spending.

•Bogus, because most of the decline has come from the sharp rise in foreclosures and bankruptcy filings. In other words, we are a nation of deadbeats, not savers.

A study released Monday by economists at the New York Fed puts the third argument to rest, at least for now. Even after accounting for foreclosures and bankruptcy filings, Americans, the paper's authors say, are reducing their debts "at a pace not seen over the last 10 years."

During the boom years of 2000 to 2007, when the growth in consumer spending oustripped personal income, Americans gave little thought to the consequences of turning to credit cards and home equity loans to finance that consumption. Financial institutions may have encouraged and enabled this behavior, but "we are social animals and spending is such a reflection of our values," said Kit Yarrow, a San Francisco-based consumer psychologist.

Now, the same group dynamic appears to be working in reverse. Frugal is fashionable.

Most companies are still scrambling to adjust to this new mind-set. Wal-mart, where Americans are supposed to go to when we're in the mood to save money, has been hit hard by 15 straight months of unemployment at 9.5 percent or higher. Sales at its stores open at least a year -- a key retailer metric -- fell 1.6 percent in the six months ending July 30.

Target managed to post small gains in same-store sales during the same period but experienced declines in both the average transaction amount and the average price on each item sold. Meanwhile, customers are using their Target credit cards less frequently and paying off the balances more quickly.

These figures square with the data the Fed reported Monday. Nationally, the number of credit card accounts open on Sept. 30 was down 24 percent from its peak in 2008. The numbers of new auto loans and mortgages remain well below the levels recorded between 2003 and 2007.

This is not the first time in our history that Americans have turned to parsimony. Depressions and deep recessions have a way of doing that, especially when accompanied by steep declines in a 401(k) or a home's value.

Companies say they will begin hiring more when consumers begin spending more. It could be a long wait. Even though consumer spending rose last quarter, personal income fell. With high unemployment and flat wages, consumers are unlikely to go on a buying binge any time soon.

One of the great debates of this recession has been the notion of a "new normal," one in which consumers turn permanently thrifty.

We won't know if that's happened until the overall economy improves, but it seems somehow unlikely that consumer spending will ever return to the levels experienced between 2000 and 2007 when, according to McKinsey & Co., it accounted for 77 percent of real growth in our gross domestic product.

"Consumers are more shaken and more wary," Yarrow said. "They still buy unnecessary things but actually really think about what they're buying, how much it costs, and where they can get it for less. That's the biggest change, to me."