Many analysts compare the rates of personal debt as a percentage of a country's gross domestic product (GDP). Specifically, such ratios are used to describe the stability of an economy, especially during times of economic crisis or recession. At high debt-to-GDP levels, a loss of income may result in further losses in GDP by means of reduced consumer, government and investment expenditure.
Defining Personal Debt
Personal debt may be defined as all debts accrued on the individual level. Such debts may include mortgage debt, credit card debt, student loan debt, car loans, and any sum that may be defined as an outstanding sum to be paid to a creditor. All these debts per citizen are added up to obtain a total of all personal debt within a county. According to the U.S. Debt Clock, as of May 18, 2011, the total amount of personal debt was over $16 trillion.
Comparing Personal Debt to GDP
Measuring personal debt to GDP typically has been accomplished using a chart. The chart, published by the Federal Reserve, illustrates GDP on the y-axis and years on the x-axis. Thus, changes in GDP may be observed over a continual basis. This GDP chart also shows personal debt as a percentage of GDP. Dividing the total amount of debt by the total amount of GDP provides the debt-to-GDP ratio, which is used by many analysts when determining the overall health of an economy.
Reasons for the Ratio
If a large proportion of a country's GDP is composed of personal debt, it may affect the ability of households to repay their debts. This is especially true if there is a shock to the financial system. A large spike in unemployment may put many indebted families out of work, which in turn makes it more difficult to repay their debts. A large amount of defaulted debts in turn make it more difficult for other people to borrow, as lenders increase their interest rates to cover their losses. Businesses may also have difficulty borrowing, which in turn decreases the investment rate. Investment is one component of GDP, and when GDP falls, the ratio of personal debt to GDP increases further.
Criticism of the Ratio
Many economists believe analyzing the debt-to-GDP ratio is ambiguous and that the origin of personal debt should be taken into account, rather than personal debt as a whole. If mortgage debt is significantly high, this may have a profoundly negative impact on the welfare of families during times of default. However, student debt is high among some members of the population, and such debt could help advance an individual's career and income. Higher incomes lead to higher levels of GDP. Thus, the personal debt-to-GDP ratio could exclude "good" debt from "bad" debt.
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