Monday, September 30, 2013

Debt and Debt Management Among Older Adults

I am writing this post and several subsequent ones on research findings. I spent a lot of the summer in front of the computer, looking at data, running regressions, scratching my head, walking around my office, and writing papers. Some of you might think that this sounds like a boring way to spend the day, but in fact, I am truly happy when I can spend time in the office or at home doing research.
The latest project I have been working on is in conjunction with my longtime co-author, Olivia Mitchell from the Wharton School. We examine debt and debt management among adults on the verge of retirement. We focus on debt for several reasons. First, debt generally rises at interest rates higher than those that can be earned on assets. For this reason, debt management is critical for those seeking to manage their retirement assets. Second, not only do families have greater opportunities to borrow to buy a home and to access home equity lines of credit but they also need lower down payments to buy a home. Additionally, as sub-prime mortgages proliferated, credit became increasingly accessible to consumers with low credit scores, little income, and few assets. Consumer credit, such as credit card borrowing, has also become more accessible, and this type of unsecured borrowing has increased over time. Third, in many states, alternative financial services have proliferated, including payday loans, pawn shops, auto title loans, tax refund loans, and rent-to-own shops.  Fourth, a focus on debt may help to identify financially fragile families who may be sensitive to shocks and unable to afford a comfortable retirement. Last, the recent financial and economic crisis was largely driven by borrowing behavior, so understanding debt may help us avoid a repeat of past errors.
What do we do to examine debt? We use data from the Health and Retirement Study (a great data set which, as the name implies, provides a lot of information for understanding retirement readiness) and compare three different cohorts of people on the verge of retirement: those who are age 56–61 at three different time periods: 1992, 2002, and 2008. We look not only at the debt these three groups of older adults hold at the time they are surveyed but also at how much debt they have in relation to their assets. We have the following findings, which I list here for ease of presentation (okay, call me nerdy).

·         Americans today are more likely to arrive at retirement with debt than in the past. Of the cohort surveyed in 1992, about 64% held debt, whereas by 2008, over 70% of the group surveyed held debt. This tells us that people retiring in the next several years (the baby- boom generation) are more likely to carry debt into retirement compared to previous cohorts.

·         Not only has the number of people holding debt increased, but the value of this debt also grew sharply. For those interested in values, median debt more than quadrupled from about $6,200 in 1992 to $28,300 in 2008 (in 2012 dollars) and many boomers (the 2008 survey cohort) had large amounts of debt (over $100,000) with respect to previous cohorts, something to worry about if interest rates increase.

·         A key reason that debt rose so rapidly for the 2008 (boomer) cohort is that this group spent more on housing than earlier cohorts. As a result, boomers are now more likely to have loans outstanding on their primary residences. Boomers are also more likely to carry non-housing debt.

·         Debt ratios have also increased, making recently surveyed (younger) cohorts more leveraged than older ones. For example, boomers have a much greater ratio of mortgage to home value to pay off and will have to service mortgage debt well into retirement. They are also much more likely to have debt equal to or greater than their liquid assets, meaning they will likely have to sell off less liquid assets (or borrow more) to pay their bills.

To get some insights into explanations for such debt and debt ratios, we turn to a data set that I have mentioned often in previous posts, the National Financial Capability Study. This is another rich set of data and because two waves are now available—2009 and 2012—we can look not just at the boomers of the same age group as were surveyed with the HRS, but also at older households in the wake of the financial crisis. The news derived from these data is not good either and reiterate the finding that many older Americans are exposed to illiquidity and/or problems with debt management.  Here are some more numbers:
·         Not only do older adults carry costly credit card debt but many have already tapped into their retirement accounts, and more than one in five have used high-cost methods of borrowing, such as payday loans, in the period from 2007 to 2012.

·         About 40% of older adults state they have too much debt, confirming the high values and ratios we see in the Health and Retirement Study data.

·         While older adults should be close to the peak of their wealth accumulation, in fact more than 35% state they could not come up with $2,000 in 30 days, one of our measures of financial fragility. Thus, many older Americans are vulnerable to shocks.

Several variables can be linked to the conditions of having too much debt and being financially fragile: having experienced a sharp decrease in income, number of dependent children, poor health, and low education and income. Financial literacy also strongly correlates with both high debt levels and financial fragility.
While protective legislation can be useful in situations where people lack opportunities to make repeat financial decisions, so as to learn from them, it can also be useful to better inform Americans of potential consequences of decisions such as buying a home, cashing out their 401(k) plans, or taking out credit card loans. As Olivia and I concluded in our recent review of financial knowledge and financial success, “the costs of raising financial literacy are likely to be substantial, but so too are the costs of being liquidity-constrained, over-indebted, and poor.”
I offer below the links to the data sets we have used in our study as well as to the Senate’s Special Committee on Saving, where Olivia testified on September 25, 2013.

Monday, September 23, 2013

The Influence of Teachers and Teaching

I moved over the summer, and it was as hard as moves are predicted to be. It took a lot of time and created its share of stress, but fortunately nothing broke and the new place is a lot nicer and very enjoyable. A friend told me that when you move, you lose something and you find something. Sure enough, a few things went missing, and who knows what happened to those boxes. But I also found a big envelop full of letters and correspondence that was sent to my old address at Dartmouth. Somehow it ended up on a shelf under a pile of papers and I never opened it. I looked inside and found some foreign correspondence, old issues of the Economist, and then a letter in a thick, elegant envelope. I opened it and found a wedding invitation. It came from one of my former students; she was in my class several years ago and also worked for me as a research assistant. I remember her vividly: a very petite Asian student who did not speak very much in class but who ranked at the top of the course. With my Italian mamma attitude, I felt protective of her; she looked so much younger for her age than the other students, and so fragile. But in fact, she had an iron will and when she was admitted to an excellent law school, she decided that the town where it was located was not ideal for a foreign student—the reasoning of a mature person who knows what she is looking for.  She had been put on a waiting list at some other schools and ultimately ended up at another Ivy League institution. And now she was inviting me to her wedding in California. I read the invitation several times, thinking of that petite student in the classroom.

As teachers, we tend to forget how much of a difference we can make for our students: we can motivate them to study more and harder, we can provide opportunities for them to ask a lot of questions, to challenge existing ideas, and we can push them to do more. The Committee on the Status of Women in the Economics Profession, also known as CSWEP, asked many famous economists how they chose their career. In many cases, the answer was that a teacher influenced them to choose economics or to go to graduate school or pursue an academic career.

I used to teach freshmen at Dartmouth, and I remember the faces of students in class, the mixture of curiosity and terror at taking their first economics course, which, on campus, had a reputation for being very difficult. Because of the work I had done on financial literacy, I knew that female students needed different arguments in order to find the course interesting and relevant.  And they needed encouragement to participate in class, ask questions, and volunteer their opinions. And I knew that technical terms—economics jargon—were off-putting for everybody, so I started the course simply and built both the “language” of economics and finance and its principles day by day. Truth be told, most of the students enrolled in economics courses because their parents told them to, so I had to prove to them that their parent were, in fact, right. (Do you see now what a tough job we have?)

When I talked to these students, many told me stories about their teachers, in some cases explaining that they had applied to highly selective colleges because their teachers had encouraged them to aim high. I heard that they loved math because their teachers made the course so good, and that they did well because their teachers cared about them. If I look back at each stage of my education, from elementary to high school to college and to graduate school, like my students, I can point to some teachers who had a profound influence on me and on who I am today. 

I am reminded of this lesson any time I start teaching a new class, any time I enter in the classroom where a new set of students are waiting. As a teacher, I have the good fortune of working with young people whose life of accomplishments has just begun.  I have a chance to influence their knowledge and, in turn, what they can do with it.

There are a few profound pleasures in life. One is receiving an invitation to the wedding of a former student. As the new academic year begins, I am reminded of the special job I have and what it means for students. For me, what I found during my move was a lot more important than what I lost.