Household Debt and Macroeconomic Stability: An Empirical Stock-flow consistent (SFC) model for the Danish Economy Mikael Randrup Byrialsen Hamid Raza Aalborg University Aalborg University, 2019 Mikael Randrup Byrialsen Hamid Raza Aalborg University Household Debt and Macroeconomic Stability: An Empirical Stock-flow consisten Aalborg University, 2019 1 / 17
Empirics 300 Total Short-term loans Long-term loans 3000000 Debt to Disposable income in % 2500000 200 2000000 1500000 Mio. kr. 100 1000000 500000 0 0 AUS AUT BEL CAN CZE DEU DNK ESP EST FIN FRA GBR GRC HUN IRL ITA KOR LTU LUX LVA NLD NOR NZL POL PRT SVK SVN SWE USA 1995 2000 2005 2010 2015 2020 Flexible rate Flexible rate with installments Current-account deposits Certificates of deposit Fixed rate Fixed rate with installments Lending Discount rate 1 8 .9 7 .8 6 % of all Mortgages .7 5 Interest rate .6 4 .5 3 .4 2 .3 .2 1 .1 0 0 2003 2008 2013 2018 1995 2000 2005 2010 2015 2020 Mikael Randrup Byrialsen Hamid Raza Aalborg University Household Debt and Macroeconomic Stability: An Empirical Stock-flow consisten Aalborg University, 2019 2 / 17
Empirics Fixed Capital Financial Assets Houses Flats Financial Liabilities Financial net wealth 120 Net wealth 9000000 100 Prices (2006=index 100) 6000000 80 Mio. kr. 3000000 60 0 40 -3000000 20 1995 1997 1999 2001 2003 2005 2007 2009 2011 2013 2015 2017 1995 2000 2005 2010 2015 2020 1996 1998 2000 2002 2004 2006 2008 2010 2012 2014 2016 2018 year Mikael Randrup Byrialsen Hamid Raza Aalborg University Household Debt and Macroeconomic Stability: An Empirical Stock-flow consisten Aalborg University, 2019 3 / 17
OECD 2016 ”Danish households have large balance sheets and high levels of gross debt. Even though the high debt levels are matched by large assets, notably in form of pension savings, there are feedback loops with the housing market and households’ balance sheets contributing to macroeconomic volatility .” Nationalbanken 2018 ”As a result of the high level of debt, of which a large share is at a variable rate of interest, changes in interest rates will have a stronger impact on disposable income than they did 10-20 years ago. Changes in income are of major significance to consumption, so private consumption has also become more sensitive to interest rates, which may reduce macroeconomic stability in certain situations. ” Mikael Randrup Byrialsen Hamid Raza Aalborg University Household Debt and Macroeconomic Stability: An Empirical Stock-flow consisten Aalborg University, 2019 4 / 17
IMF 2017 ”Household debt and access to credit can help boost demand and build personal wealth, but high indebtedness can also be a source of financial vulnerability. Nonetheless, even if positive in the long term, high household indebtedness can cause significant debt overhang problems when a country unexpectedly faces extreme negative shocks. ” Aim The aim of this paper is to investigate the macroeconomic risks associ- ated with high household debt in a situation with: 1 an increase in the interest rate 2 a fall in house prices Mikael Randrup Byrialsen Hamid Raza Aalborg University Household Debt and Macroeconomic Stability: An Empirical Stock-flow consisten Aalborg University, 2019 5 / 17
Inspiration Godley & Zezza (DK) Levy-institute(US and Greece) Model for Italy and England Data sources Annual data from 1995-2016, mainly from EUROSTAT Econometric ARDL and OLS Mikael Randrup Byrialsen Hamid Raza Aalborg University Household Debt and Macroeconomic Stability: An Empirical Stock-flow consisten Aalborg University, 2019 6 / 17
Assumptions Small open economy with fixed exchange rate Small economy doesn’t affect the situation in Rest of the World 5 sectors: Households, Non-financial corporations, Financial corporations, Government and Rest of the World Only three financial assets (IBA, Equities and Pension) Fixed capital (including stock of housing and stock of capital) Only three interest rates Mikael Randrup Byrialsen Hamid Raza Aalborg University Household Debt and Macroeconomic Stability: An Empirical Stock-flow consisten Aalborg University, 2019 7 / 17
Balance sheet Mikael Randrup Byrialsen Hamid Raza Aalborg University Household Debt and Macroeconomic Stability: An Empirical Stock-flow consisten Aalborg University, 2019 8 / 17
Transactions 2015 Mikael Randrup Byrialsen Hamid Raza Aalborg University Household Debt and Macroeconomic Stability: An Empirical Stock-flow consisten Aalborg University, 2019 9 / 17
Real side - Household Income: Y H = WB H t + B H 2 t + r H A t − 1 ( IBA H t − 1 ) − r H L t − 1 ( IBL H t − 1 ) t + χ t ( EQA H t − 1 ) + ψ t ( PENA H t − 1 ) + STR H t + ǫ H Consumption: + β 9 ln ( c t − 1 ) + β 10 ln ( yd H t ) + β 11 ln ( nw H ln ( c t ) = t − 1 ) β 8 Investment: � P H � ln ( i H β i ln ( i H t − i β i ln ( yd H t ) = β i + t − i ) + β i ln + t − i ) P i t − i Net lending: NL H t = S H t − I H t − NP H + KTR H t t Mikael Randrup Byrialsen Hamid Raza Aalborg University Household Debt and Macroeconomic Stability: An Empirical Stock-flow consisten Aalborg University, 2019 10 / 17
Financial side - Household Accumulation of Equities: β 20 + β 21 ( χ t ) + β 22 ( r H L t − 1 ) + β 23 IBLTR H EQAHTR t = t Accumulation of Pension: ln ( PENATR H β 26 ln ( yd H t ) = β 24 + β 25 ( ψ t ) + t ) Accumulation of Loans: IBLTR H = β 28 ( I H t ) + β 29 ( IBL H t − i ) + β 30 ( FATR H t ) + β 31 ( r H L t − 1 ) t Accumulation of Interest bearing assets: NL H + IBLTR H IBATR H − EQATR H − PENATR H = t t t t Mikael Randrup Byrialsen Hamid Raza Aalborg University Household Debt and Macroeconomic Stability: An Empirical Stock-flow consisten Aalborg University, 2019 11 / 17
DATA vs. Model 2000000 950000 real output (actual data) real consumption (actual data) real output (model) real consumption (model) 900000 1800000 850000 800000 1600000 750000 1400000 700000 1995 2000 2005 2010 2015 1995 2000 2005 2010 2015 400000 new loans (actual data) financial balance (actual data) new loans (model) 50000 financial balance (model) 300000 200000 0 100000 -50000 0 -100000 -100000 1995 2000 2005 2010 2015 1995 2000 2005 2010 2015 Mikael Randrup Byrialsen Hamid Raza Aalborg University Household Debt and Macroeconomic Stability: An Empirical Stock-flow consisten Aalborg University, 2019 12 / 17
Baseline Simple forecast until 2025 no capital gains - low real growth rates in baseline Shocks Increase in the level of interest rate (1%-point 2017-2025) Fall in the house prices ( − 5% 2017) House prices (baseline) House prices (scenario) .5 .4 % deviation from baseline .3 .2 .1 0 2010 2015 2020 2025 Mikael Randrup Byrialsen Hamid Raza Aalborg University Household Debt and Macroeconomic Stability: An Empirical Stock-flow consisten Aalborg University, 2019 13 / 17
Increase in interest rate Financial balances real GDP real consumption H NFC real investment real export FC G real import ROW .5 2 Deviation from baseline as % of GDP % deviation from baseline 1 0 0 -.5 -1 -1 -2 2010 2020 2010 2015 2020 2025 Effect on consumption and investment Effect on financial stocks real investment real consumption interest-bearing assets interest-bearing liabilities Pension Equities Financial net wealth 0 1 % deviation from baseline -1 % deviation from baseline 0 -2 -1 -3 -2 -4 -3 2010 2020 2010 2020 Mikael Randrup Byrialsen Hamid Raza Aalborg University Household Debt and Macroeconomic Stability: An Empirical Stock-flow consisten Aalborg University, 2019 14 / 17
Fall in house prices Financial balances real GDP real consumption H NFC real investment real export FC G real import ROW 2 Deviation from baseline as % of GDP 0 % deviation from baseline 1 -1 -2 0 -3 -1 -4 -2 2010 2015 2020 2025 2010 2015 2020 2025 Housing wealth Effect on financial stocks interest-bearing assets interest-bearing liabilities 0 Pension Equities Financial net wealth % deviation from baseline 5 -2 % deviation from baseline 0 -4 -5 -10 -6 2010 2015 2020 2025 2010 2015 2020 2025 Mikael Randrup Byrialsen Hamid Raza Aalborg University Household Debt and Macroeconomic Stability: An Empirical Stock-flow consisten Aalborg University, 2019 15 / 17
Is household debt a risk to the macroeconomic stability? The overall results of our model indicate that higher household debt can magnify the effects of negative shocks Economic growth in response to these shocks will slightly slow down but will not turn negative. Domestic shocks to the economy may not pose a serious risk to macroeconomic stability Why is this time different? A reduction in global output in combination with a rise in interest rate and a fall in house prices leads to a serious recession in the Danish economy mimicking the situation in 2009. Being a small open economy, the Danish economy is highly affected by global shocks. Mikael Randrup Byrialsen Hamid Raza Aalborg University Household Debt and Macroeconomic Stability: An Empirical Stock-flow consisten Aalborg University, 2019 16 / 17
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