Hi! I’m Aziz. My newsletter contextualizes economic news using data visualization. These days I’m focusing on housing—hit reply and let me know what you think.

Americans have taken on almost $3 trillion more debt since the start of 2020. We haven’t seen this pace of debt growth in 15 years. Eighty-five cents on every dollar of pandemic borrowing was mortgage debt. Reasonable people wonder if this will end badly—after all, 2008 wasn’t that long ago.

But those waiting for a crisis are likely to be disappointed—or at least, to be waiting for a long time. A 2008-style housing meltdown is exceedingly unlikely anytime soon, for many reasons—not least because credit has been flowing to more worthy borrowers than in 2003-06.

The median credit score (“FICO score”) of a mortgage borrower in 2021 was more than 80 points higher than the median borrower in the lead-up to the 2008 credit crisis. The chart above shows that mortgage borrowing peaked in the second quarter of 2021. In that quarter, 71% of mortgage volume went to “superprime” borrowers with scores above 760. At the peak of lending in 2003, only 31% had such high scores.

This difference in borrower risk is enormous. According to the modeling that underpins the Fed’s bank stress tests, loss rates on lending to borrowers with scores above 740 are expected to be almost 6x lower than for borrowers with scores below 680.

That said, we have to be careful with FICO scores. Credible sources have argued that today’s elevated scores may reflect the impact of strong employment growth (which, for example, lowers debt to income ratios) rather than any kind of fundamental shift that would make these borrowers more creditworthy. As a result, high scores today should not be compared to lower ones in the past, they claim.

There are other reasons for concern, too. It’s likely government support—like the moratorium on student debt payments, mortgage forbearance (allowing borrowers a break from repayments), and federal cash transfers—boosted borrower creditworthiness. That boost might prove temporary.

Moreover, skeptics point out that—regardless of the credit scores of the borrowers—the pace of the recent rise in debt is in itself potentially troubling.

Oh, FICOff

Perhaps. But the counterarguments are, I think, much more powerful.

FICO scores are not comparable between periods of high and low growth (high growth flatters borrowers creditworthiness). But it’s reasonable to compare scores during the latter part of the pandemic to 2003-06, since both were periods of high growth and low/falling unemployment. If anything the comparison disfavors the pandemic, since labor markets were still healing until 2023.

And while government support during the pandemic did boost credit scores, these measures helped subprime borrowers much more than the superprime ones that took our mortgages or refinanced during the pandemic.

Finally, while diminishing the importance of a rise in borrowing is not the hill I want to die on, as the New York Fed (and CalculatedRisk by Bill McBride) pointed out last year, “unlike the 2003-06 housing boom, mortgage debt has been rising much more slowly than home values.”

Another reason the increase in debt shouldn’t set off alarm bells: the explosion of borrowing happened at very low interest rates. As a result, mortgage debt service payment as a percentage of disposable income is the lowest in at least 43 years. Sure, a recession could change the denominator there—and that’s perhaps the biggest concern—but the ratio would be rising from an extremely low level, and the numerator is locked in for 30 years.

Not another ARMageddon

Aside from an improvement in borrower quality, the mortgage structures that made up the bulk of lending during the pandemic were much less risky than those that were widely-used in 2003-06. Not least, the proportion of mortgages in adjustable-rate format (which start low but then typically reset to a higher interest rate after a number of years) has been below 5%, compared to about 35% in the run-up to the 2008 crisis.

Questions? Please leave them in the comments below—I will answer them as best I can!

Leave a comment

Further reading

Mortgage lock-ins: move it and lose it Jun 2 Read full story