Chapter 3 in Strapped: Why America’s 20- and 30-Somethings Can’t Get Ahead is Generation Debt. I think we all know what that means. The author says the younger generation can’t get ahead because they have too much debt. Now, the stories:
Lori, a 33-year-old living in Manhattan, still has $40,000 in student loans debt. She earned only $16,000 a year in her first job as a social worker and community organizer in New York. Her income “inched upward” over time but it’s still not enough to pay all her bills and loan payment. So she deferred payments on her student loans.
Ah, living in Manhattan on $16,000 a year. The book doesn’t say what Lori’s current salary is but even double that, at $32,000 a year, it’s still going to be tough living in Manhattan. When I was in New York city a few months ago, I rode in the commuter train on a random workday. It was packed. There was hardly any standing room. I’m sure many of the commuters earn much more than $32,000 a year. I’m guessing they chose to spend a lot of time commuting every day because the living expenses are lower outside of New York city. Between paying off debt and spending less time commuting, Lori chose the latter.
Elaine got her credit card in college and a free T-shirt too. She used her credit card to pay for tuition and living expenses because her parents couldn’t help pay for college. Elaine plays the credit card game well. She transfers balance from one card to another every six months for the low introductory rates. She now owes $40,000 but half of it was racked up after college. She bought a new computer and new furniture because she “wanted to make her apartment look like an adult’s apartment.” She also used credit cards to pay for her wedding and flights for family visits. Elaine has no regrets. She thinks about the things her cards enabled her to do: studying in Scotland, flying to Paris, her perfect wedding.
This is a good story. I want my home to look good too. If I don’t have to pay back the money, I would also like to have a perfect wedding or study in Scotland. Elaine is not afraid of debt. She used debt for “consumption smoothing.” She was able to do things she didn’t have money for. I flash back to my student days. I did many things which looked silly now, like working in the college cafeteria serving nacho and cleaning up, for minimum wage $4.25/hour plus free food. Until today I still have my employee badge with that food service contractor. It serves as a reminder of the days when I was poor. I knew I would earn a much higher salary after I graduated. I had credit cards but somehow carrying a balance simply wasn’t an option for me. I wasn’t as smart as Elaine. My college years would’ve been much more comfortable if I borrowed from my credit cards.
The third story:
David and Lisa, both 31, have Ivy League degrees. They bought their home when they were 28. They earn $86,000 together in Cincinnati but they also have $40,000 in credit card debt. Their credit card debt has grown since they got married. David calls it “unavoidable debt” because the debt came from the cost of traveling around the country for friends’ weddings, holiday trips to visit their families and the cost of clothing and feeding their two children. David acknowledges that going to weddings and visiting family is a major source of their debt but they believe seeing friends and family is more important. They are now trying to move to a larger house with a real backyard and enough bedrooms so each of the boys can have his own room. Seven years after they got married, they are basically treading water because they have as much debt now as seven years ago.
Once again we see David and Lisa made the life style choice between debt and attending friends’ weddings because they think the latter is more important. Although I wouldn’t make the same choice, I don’t want to judge or criticize their choice either. It’s their life. They get to choose how to live it. There’s nothing right or wrong about it. But we can’t say they can’t get ahead. They chose not to.
The author suggested some public policy changes to deal with the consumer debt problem.
- Allow credit card rate increases only on new balances, not on the existing balance. I can see the arguments on either side. Borrowers say it’s unfair to have a higher rate apply to money they already borrowed. Credit card companies say because the loan is revolving, it’s actually renewed month-to-month. If the borrower doesn’t like the new rate, they can transfer the balance to a different card, just like what Elaine in the book did. There is so much competition in credit cards. If a company raises their rate willy-nilly, it risks losing a profitable customer.
- Ban credit card solicitations on college campuses. OK, not a problem, although I’m not sure how effective it’ll be in reducing the debt people have. If we decide that credit cards are a dangerous product and we want to protect our younger generation, we could raise the minimum age for obtaining a credit card to 25, like we have minimum age for smoking and drinking. We could also require a test for debt management and financial responsibility before someone can get a credit card, like we do before a gun license or a driver’s license can be issued. These measures will be much more effective than merely banning on-campus credit card solicitations because college students have plenty of exposure to credit card ads elsewhere: online, on billboards, on TV and in newspapers and magazines.
- End predatory lending in mortgage refinance. Fees, points, and prepayment penalties are too high. Expensive products are everywhere. Let’s protect the consumers and regulate the prices. We should start with weddings, jewelry, furniture, designer apparel, shoes and accessories, and cosmetics and perfumes because their profit margins are too high. These expensive products are draining the wallet of our younger generation. But who gets to decide when something is worth or not worth the price?
Credit card companies make easy targets for the blame game. They are not saint but they are just like other companies working hard for making a profit. The credit card industry is very competitive. The cost of switching is negative (low introductory rates and sign-up bonuses). More laws and regulations are great on the supply side. Let’s not forget the demand side either. Let’s also make a law that caps the debt-to-income ratio or the debt-to-assets ratio for young adults. That’ll guarantee that our younger generation will not have too heavy a debt load dragging them down. As we have seen, self-discipline isn’t working. People willingly take on credit card debt despite the bad press credit card companies receive. We don’t let anyone buy alcohol, tobacco, prescription drugs, or guns at will. Limiting how much our citizens can borrow isn’t too far fetched. Or else they shoot themselves in the foot.
Or we can just let adults be adults. The perpetual “guns kill or people kill” argument lives on.
How do you make people do the right thing for themselves? This isn’t only credit cards. It applies to smoking and eating healthy too. I think it’s common knowledge that french fries are not good for one’s health. Yet the amount of french fried consumed every day in this country is probably measured by thousands of tons. People want french fries. Restaurants happily serve them. Whose problem is it that people eat too much fries?
Instant diversification in a low-cost ETF portfolio. Convenient and disciplined with automatic rebalancing. Minimize your taxes. Betterment.com.