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Scary Headlines Belie Better Credit News

The Wall Street Journal noted this week that “U.S. Household Debt Reaches New Record as Some Delinquency Rates Rise.” It looks like an alarming headline at first glance – but the key word is “some.”

The Federal Reserve Bank of New York reported the 13th straight quarterly increase of household debt, the Journal observed. The report also shows a rise in delinquency, but that increase is mainly restricted to automotive loans to subprime borrowers by auto-finance companies. This sharp increase contrasts with low delinquency rates overall.

While auto loan defaults are certainly bad news for individual borrowers, the trend may actually signal something positive. These subprime borrowers may not have been able to get credit at all a few years ago. The post-housing crisis world led to highly risk-averse lenders, from banks downward, to avoid all but the lowest risk customers. Now these consumers are able to secure the loans that, in some cases, prove to be too much of a stretch.

Overall, we are seeing a moderate loosening of credit across the board. And while home-equity lines of credit, which ballooned in the years leading up to the 2008 crisis, remain severely depressed, mortgage borrowing has grown to $8.743 trillion, a $52 billion increase from the spring of 2017. This may well reflect millennials aging up into the home-buying bracket. According to data from the National Association of Realtors, millennials have represented the largest group of home buyers for the past four years.

This data undercuts the myth that young adults of this generation simply aren’t interested in homeownership. In fact, it seems increasingly clear that observers who assumed otherwise were mainly just impatient. Ten years ago, many millennials were in or just leaving college, and a large proportion of them were renters or living at home. Today, a strengthening economy combined with rising rents across the country has tipped the calculus for many back in favor of owning a home.

Consumer debt was about 66 percent of U.S. economic output last quarter, well below the 87 percent peak of 2009. And with unemployment even lower than it was prerecession, consumers are in a position to take on moderate amounts of debt as credit becomes more available to them.

Proposed tax changes, if they make it into law, could go a long way toward keeping the credit market healthy. In particular, the reign of the mortgage interest deduction may soon draw to a close.

This sacred cow has long been popular with voters, despite objections from both the right and the left. But the House of Representative’s tax bill called for cutting it from $1.1 million to $500,000, a substantial haircut. The Senate version of the bill restored the cap to $1 million – but for most people, it may not matter, because the Senate plan preserves the House’s proposal to substantially increase the standard deduction.

Raising the standard deduction allows lawmakers to put more money in people’s pockets to spend on anything they like, whether mortgage payments, rent or something else entirely. Since fewer homeowners would benefit from itemizing their deductions, Congress would no longer automatically reward more expansive mortgage borrowing.

This is exactly why real estate professionals hate the idea of raising the standard deduction, and why they railed against the House’s proposal. Granger MacDonald, the chairman of the National Association of Home Builders, said the plan “abandons middle-class taxpayers,” Forbes reported. The mortgage interest deduction tended to drive up home prices because it incentivized consumers to take on larger mortgages.

Incidentally the same principle applies to the student loan interest deduction, which is why colleges also hate the proposal to raise the standard deduction. Either getting rid of the student loan interest deduction or having fewer people take it creates the same result: The government is no longer incentivizing students to get deeper into debt. Considering that student loan debt reached $1.357 trillion nationally this fall, it’s an area we could stand to scale back – though colleges, of course, don’t see it that way.

Overall, we are seeing signs that the credit market for consumers is beginning to relax once again. With some thoughtful tax policy, we may be able to keep it that way.

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