Realist, not conformist analysis of the latest financial, business and political news

When People Say American Households Can’t Afford $400 Expenses They’re Lying

Of course, with journalists and numbers it’s difficult to tell whether we’re talking about lies or simple ignorance. They are all arts graduates after all. With politicians and numbers it’s a little easier, the presumption will always be malevolence and thus lies. True, some of them are stupid enough not to know but then that’s self-limiting – people that dumb won’t do much harm if elected.

The specific point here being this oft quoted statistic that some all too large number of Americans could not afford a $400 emergency expense. Which is entire wallop of the cod-style kind. That’s not even the question that’s asked, let alone the answer.

An example of this is here:

[perfectpullquote align=”full” bordertop=”false” cite=”” link=”” color=”” class=”” size=””] Amid what is likely to become the longest period of sustained economic growth on record, a new report shows that millions of middle-class and low-income Americans still aren’t on solid enough ground to weather a sustained downturn. Since the Federal Reserve’s annual report on household well-being began in 2013, the survey (most recently of more than 11,000 Americans) has become a key measure of whether the benefits of the recovery have reached beyond the upper end of the socioeconomic spectrum. [/perfectpullquote] [perfectpullquote align=”full” bordertop=”false” cite=”” link=”” color=”” class=”” size=””] Although this year’s report painted a positive picture overall, officials said, it identified underlying fragility and exposed pockets of distress. In line after line, the report lays out the everyday concerns that plague U.S. households. Almost four in 10 people (39 percent) said they wouldn’t be able to scrape together the cash to meet a $400 emergency expense. [/perfectpullquote]

No, that’s not the answer at all. 39% said they didn’t have enough cash to pay a $400 expense. This is a very different statement.

So, open your wallet or purse. Do you have $400 in it? Nope? Then you don’t have $400 in cash, do you? I don’t either, my money is in the bank.

No, that’s not quite the answer either, but it illustrates that we’ve got to be real careful about the exact details of what is being asked.

The Federal Reserve report is here. The .pdf is here.

[perfectpullquote align=”full” bordertop=”false” cite=”” link=”” color=”” class=”” size=””]Small, Unexpected Expenses
Relatively small, unexpected expenses, such as a car
repair or replacing a broken appliance, can be a
hardship for many families without adequate savings.
When faced with a hypothetical expense of $400,
61 percent of adults in 2018 say they would cover it,
using cash, savings, or a credit card paid off at the
next statement (referred to, altogether, as “cash or its
equivalent”)—a 2 percentage point increase from
2017 (figure 10). In 2013, half of adults would have
covered such an expense in the same way.
Among the remaining 4 in 10 adults who would have
more difficulty covering such an expense, the most
common approaches include carrying a balance on
credit cards and borrowing from friends or family
(figure 11).[/perfectpullquote]

And as we can note, things are getting better:

Paying off a $400 expense

And then there’s this:

Paying off a $400 expense

That is, 88% of the population could pay a $400 expense. Some would borrow to do it but so what? As Alan Reynolds points out this question is routinely misunderstood:

[perfectpullquote align=”full” bordertop=”false” cite=”” link=”” color=”” class=”” size=””] Governor John Hickenlooper, writing in The Wall Street Journal, repeats a misleading interpretation of one answer to a Federal Reserve poll question that is frequently used to suggest many Americans are in dire financial straits: “Forty percent of Americans in 2017 didn’t have enough savings to cover a $400 medical emergency or car repair, according to the Federal Reserve.” But that is not the question that was asked, and it certainly is not the answer. [/perfectpullquote] [perfectpullquote align=”full” bordertop=”false” cite=”” link=”” color=”” class=”” size=””] The question was about how people would choose to pay a $400 “emergency expense” — not whether or not they could pay it out of savings (or checking) if they wanted to. Respondents were also free to choose more than one way of paying the extra $400 (“please selects all that apply”), so the answers add up 143% rather than 100%. Even if 100% said they could pay an extra $400 with cash, there could still be more than 40% who would choose a different method. It turns out that 86% would pay cash or charge it and then pay off the bill at the next statement (many consumers autopay credit card bills from checking accounts). Some (11%) said they might borrow some or all of it from a friend or family member, but that probably means a spouse or parent in most cases (respondents included full-time students). [/perfectpullquote]

Given that Alan Reynolds is at the right hand of St Milt that should be enough. But as is my wont I go further.

It’s exactly because we have a decent financial system that people don’t have $400 lying around in cash. Think on it for a moment. Having $400 now means that you have forgone, in the past, $400 of consumption opportunities. You’ve had to not do something in order to have the cash. Or the money in a bank account. Here’s the emergency and now you do something. Great.

But what if you’ve not the $400 and you borrow it? In the future there’s some $400 of activity that you have to forego in order to pay off that loan. Well, OK. So, in order to pay the emergency expense you’ve got to forego $400 of other activity. Now, whether you do it before the event or after makes little difference in the longer term.

Except it does, a little bit. No, don’t worry about the interest you’ve got to pay on a loan, that’s offset by the interest you didn’t get on having $400 in cash. For we don’t know whether the emergency expense is going to arrive. That’s inherent in our description of it as an emergency, unforeseen. Before we had a decent banking system which enabled borrowing at sight we used to have to hold resources in cash. In poor parts of the world they still do. Now we’ve got a decent consumer banking industry. We can treat emergencies as what they are, events with a probability of less than 1. And we can pay for them when they occur, only curtailing our consumption if they do occur, not having to only if they might.

Which is, of course, what a consumer credit industry is for, to allow us to move our consumption and savings decisions around in time. The American one does this, very effectively. We’ve thus got the industry we desire then, haven’t we?

That lots of Americans would borrow to pay a $400 expense isn’t some disaster, it’s a proof that our consumer credit system works. Huzzah, eh?

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