WEEKLY GUIDANCE ON ECONOMIC AND GEOPOLITICAL EVENTS January 29, 2019 Student Loan Debt Headwind to Economic Growth Craig P. Holke Investment Strategy Analyst Key takeaways» Student loan debt continues to grow. It has become the second largest source of household debt, and it is owed by an ever-growing share of the U.S. population.» Due to the federal government owning the majority of student loan debt, we do not see this growing debt level as representing the same level of threat as mortgages posed to the financial system and economy prior to the last recession. What it may mean for investors» As more individuals acquire ever larger amounts of student loan debt, the resulting reduction in spending is likely to provide a headwind to U.S. economic growth. We recently wrote that household debt levels are rising but that we do not believe this trend poses a threat to continued U.S. economic growth. 1 We excluded student loan debt from that analysis, so that we could address it separately. Student loan debt differs from other forms of household debt (mortgages, auto loans, and credit cards) in its growth pattern and overall implications for the U.S. economy and markets. While it represents a large and long-term drag on household spending, we do not believe that student loan debt poses a systemic threat to the financial system or economy. Student loan debt growth continues regardless of the economy Other forms of household debt tend to be cyclical in nature. They expand when the economy is doing well and contract when consumers tighten their belts. As Chart 1 shows, student loan debt differs in that it has expanded at an almost linear rate. Recessions may have very little impact on the amount of student loan debt. Displaced workers sometimes go back to school to develop new, more marketable skills. Student loan debt is now the second largest source of U.S. household debt behind mortgages. This accumulation of debt poses potentially negative consequences for future household saving and spending. 1 Are Rising Household Debt Concerns Warranted?, Craig P. Holke, Global Perspectives, December 18, 2018. 2019 Wells Fargo Investment Institute. All rights reserved. Page 1 of 5
Chart 1. Student loan debt shows little signs of slowing $1,800 $1,600 $1,400 $1,200 Billions $1,000 $800 $600 $400 $200 $0 2006 2008 2010 2012 2014 2016 2018 Student loans Credit card debt Auto loans Sources: Federal Reserve Board of Governors, Wells Fargo Investment Institute, January 24, 2019. Quarterly data from the first quarter of 2006 through the third quarter of 2018. Higher student loan balances act as a headwind to consumer spending A key risk to markets and the U.S. economy is the lower disposable personal income that is available to spend after paying off debt. For those with student loans, this has had the effect of delaying household formation and spending for goods which drive economic growth (e.g., housing and autos). As the number of individuals attending college and the cost of tuition keep rising, the number of students with loans and the balances on those loans continue to grow. We took a look at the federal government s student loan portfolio and determined that 45 million Americans have student loans totaling $1.45 trillion. Using the Organization for Economic Co-operation and Development s (OECD) working age population estimate of approximately 207 million people in the U.S. (ages 15-64), roughly 22% may have student loan debt on which they are paying principal and interest. Table 1 displays the breakdown of the federal student loan portfolio and how that debt is distributed across age groups. Table 1: Profile of student loan debt landscape in the U.S. 24 or younger 25 to 34 35 to 49 50 to 61 62 and older Number of borrowers (in millions) 8.48 15.18 13.99 5.83 1.89 Average debt per borrower $14, 794 $32,599 $38,619 $37,638 $34,487 Sources: U.S. Department of Education, Wells Fargo Investment Institute, January 24, 2019. Data as of September 30, 2018. 2019 Wells Fargo Investment Institute. All rights reserved. Page 2 of 5
Research has shown that attaining higher education can provide potentially higher income over the course of a working career. For those who finance this education with debt, the cost of paying monthly student loan debt principal and interest offsets this somewhat and serves as a drag on spending for other services and goods. Investment implications A large portion of student loan debt had been held by private institutions, but that burden has increasingly shifted to the federal government. Thus, the risk to the U.S. financial system is not as severe as the risk that was posed by privately-held mortgages leading up to the last recession. Even if students were to default in large numbers, the federal government would not face extreme financial challenges (given its resources). Additionally, student loan debt is very difficult to discharge in bankruptcy. This means that a large portion of the public will be forgoing other spending to pay back their student loans. Yet, the effect of rapidly rising student loan debt is some level of reduced consumer spending, leading to lower U.S. economic growth than would otherwise be experienced. There may be an effect of delaying household formation and purchase of large-ticket items such as homes and autos. This is not a sharp move; it is more of a modest economic headwind that takes place over the life of the student loans. With the consumer driving about 70% of the U.S. economy and a large (and growing) percent having student loans, household spending may remain lower than its potential in the foreseeable future. 2019 Wells Fargo Investment Institute. All rights reserved. Page 3 of 5
Economic Calendar Date Country Report Estimate Previous 1/29/2019 US Wholesale Inventories MoM -- -- 1/29/2019 US Advance Goods Trade Balance -- -- 1/29/2019 US Retail Inventories MoM -- -- 1/29/2019 US S&P CoreLogic CS 20-City YoY NSA -- 5.03% 1/29/2019 US Conf. Board Consumer Confidence -- 128.1 1/30/2019 US MBA Mortgage Applications -- -- 1/30/2019 US ADP Employment Change -- 271k 1/30/2019 US GDP Annualized QoQ -- 3.40% 1/30/2019 US Pending Home Sales MoM -- -0.70% 1/30/2019 US FOMC Rate Decision (Upper Bound) 2.50% 2.50% 1/31/2019 US Initial Jobless Claims -- -- 1/31/2019 US Personal Income -- 0.20% 1/31/2019 US Personal Spending -- 0.40% 1/31/2019 US Continuing Claims -- -- 1/31/2019 US Chicago Purchasing Manager -- 65.4 2/1/2019 US Change in Nonfarm Payrolls -- 312k 2/1/2019 US Unemployment Rate -- 3.90% 2/1/2019 US Markit US Manufacturing PMI -- -- 2/1/2019 US ISM Manufacturing -- 54.1 2/1/2019 US U. of Mich. Sentiment -- -- 2/4/2019 US Factory Orders -- -- 2/4/2019 US Durable Goods Orders -- -- 2/4/2019 US Durables Ex Transportation -- -- 2/4/2019 US Cap Goods Orders Nondef Ex Air -- -- 1/29/2019 FR Consumer Confidence 88 87 1/30/2019 EC Consumer Confidence -7.9-7.9 1/30/2019 MX GDP NSA YoY 2.00% 2.50% 1/30/2019 CH Manufacturing PMI 49.3 49.4 1/31/2019 EC GDP SA YoY 1.20% 1.60% 1/31/2019 CH Caixin China PMI Mfg 49.7 49.7 2/1/2019 EC Markit Eurozone Manufacturing PMI 50.5 50.5 2/3/2019 JAPAN Monetary Base YoY -- 4.80% 2/4/2019 ITALY CPI EU Harmonized YoY -- 1.20% 2/4/2019 AUSTRALIA RBA Cash Rate Target 1.50% 1.50% Source: Bloomberg, as of January 25, 2019. 2019 Wells Fargo Investment Institute. All rights reserved. Page 4 of 5
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