Thursday, December 9, 2010
Based on the household balance sheet data released today by the Fed (see my prior post for more details), I have estimated how the data could be disaggregated for the above chart. The picture hasn't changed much over time, but the message is still meaningful: rising interest rates on balance are good for the household sector. If the economy continues to recover, regardless of whether the Fed discontinues QE2 or not, interest rates should rise and that should be a net benefit to consumers.
Households have significantly more exposure to floating rate assets (e.g., time deposits, CDs, money market funds) than to floating rate debt (e.g., adjustable rate mortgages). That means that falling interest rates really cut into the income of retired folks, but rising interest rates are a direct benefit to households since that increases household income. As interest rates rise, the increase in interest income received greatly exceeds the increase in interest paid out.
As for exposure to fixed rates, households suffer somewhat from higher interest rates, since they have about 20% more exposure to fixed rate assets (mainly in the form of bonds whose price would decline as prices rise), than they do to fixed rate debt (mainly in the form of fixed rate mortgages that are immune to higher interest rates). However, this loss would be only on a mark-to-market basis, since cash flows would be largely unaffected.
Posted by Scott Grannis at 5:51 PM