Should We Worry About American Debt?: Part VI

Financial Sector Debt Not Overly Concerning at Present

Executive Summary

Leverage in the financial sector increased significantly in the years leading up to the financial crisis, and the rise in debt was especially marked among the government-sponsored enterprises, their associated mortgage pools and issuers of asset-backed securities. However, debt in the financial sector currently stands nearly $2 trillion lower than at its peak ten years ago, and the debt-to-GDP ratio of the sector has receded to a 20-year low. Deleveraging has been especially pronounced in the asset securitization part of the sector. Any concerns that readers may have about American debt at this time should probably not be focused on the financial sector.

The Overall Financial Sector Has De-Levered

In a series of reports that we have published recently, we have been analyzing debt in a number of sectors in the U.S. economy. As we showed in Part I, the aggregate amount of debt in the U.S. economy has trended higher over the past few decades and totals nearly $70 trillion today. We addressed debt in the household sector in Part II, and the debt of the non-financial business sector was the topic of Part III. We next turned our attention to public sector debt by delving deeper into federal government debt in Part IV and the debt of state and local governments in Part V. In this, our sixth report in the series, we analyze the debt of the U.S. financial sector.

Let’s start with a brief overview of the private financial sector in the United States. For starters, the size of the sector mushroomed to $70 trillion on the eve of the financial crisis from $15 trillion in 1990. The sector subsequently contracted by about 5% by early 2009 before growing anew. Today, the financial assets of the private financial sector are just shy of $100 trillion.

Figure 1 shows the composition of the private financial sector on the eve of the financial crisis in Q3-2008. The assets of depository institutions (largely commercial banks) totaled $13.8 trillion, which represented about 20% of total sector assets at that time. Insurance companies (both property & casualty and life) had $6.7 trillion worth of financial assets, pension funds (private and public) accounted for $13.9 trillion, and mutual fund assets stood at $11.5 trillion. The assets of the government-sponsored enterprises (GSEs) and their associated mortgage pools together totaled $8.3 trillion, and issuers of asset-backed securities (ABS) had $4.4 trillion worth of assets.1 The combined assets of other types of financial institutions, which include securities brokers & dealers, REITs, finance companies, funding corporations and holding companies, totaled $10 trillion in Q3-2008. In sum, financial sector assets were fairly well distributed across different types of institutions ten years ago.

The distribution of financial sector assets today is largely similar, although there have been some subtle changes over the past decade. The relative shares of depository institutions and insurance companies are little changed today relative to ten years ago (Figure 2). The relative sizes of mutual funds and pension funds are a bit larger today than they were in Q3-2008 due to the significant rise in asset prices over the past ten years. But the most notable change in financial sector assets relative to 2008 is the shrinkage in the relative shares of the GSEs and their associated mortgage pools and the issuers of ABS. Together, those institutions accounted for more than 18% of financial sector assets in 2008. Their combined share today is less than 11%. We will discuss the relative shrinkage of these sub-sectors in more detail subsequently.

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