2. Borrowing by Businesses and Households
Vulnerabilities from business and household debt have continued to fall since the November report, reflecting continued government support; nonetheless, business-sector debt outstanding remains high relative to income
Vulnerabilities arising from business debt remain elevated, although they have fallen since the middle of last year. Business debt outstanding changed very little in the second half of 2020, and recovering earnings and the low level of interest rates have generally aided businesses' ability to carry debt. Smaller businesses, some of which continue to face significant financial strains, have been supported by government programs, including the Paycheck Protection Program (PPP), which was bolstered in part by funding from the Federal Reserve's Paycheck Protection Program Liquidity Facility (PPPLF).
Vulnerabilities arising from household debt are modest. Household borrowing has remained heavily concentrated among borrowers with high credit scores. Government actions taken in response to the pandemic have provided significant support to household balance sheets and incomes, with many households saving more and holding more liquid assets. Still, some households continue to face significant financial stresses.
Table 2 shows the amounts outstanding and recent historical growth rates of forms of debt owed by nonfinancial businesses and households as of the end of 2020. Total outstanding private credit was split about evenly between businesses and households, with businesses owing $17.7 trillion and households owing $16.6 trillion. While business debt increased 9.1 percent, on net, over 2020, roughly one-third, or about $425 billion, of this net increase consists of outstanding PPP loans that may be forgiven over coming quarters.
Table 2. Outstanding Amounts of Nonfinancial Business and Household Credit
|Item||Outstanding (billions of dollars)||Growth, 2019:Q4-2020:Q4 (percent)||Average annual growth, 1997-2020:Q4 (percent)|
|Total private nonfinancial credit||34,359||6.6||5.6|
|Total nonfinancial business credit||17,719||9.1||5.9|
|Corporate business credit||11,145||10.1||5.2|
|Bonds and commercial paper||7,257||10.4||5.8|
|Noncorporate business credit||6,574||7.5||7.3|
|Commercial real estate credit||2,597||4.4||6.1|
|Total household credit||16,640||4.1||5.3|
Note: The data extend through 2020:Q4. Growth rates are measured from Q4 of the year immediately preceding the period through Q4 of the final year of the period. The table reports the main components of corporate business credit, total household credit, and consumer credit. Other, smaller components are not reported. The commercial real estate (CRE) row shows CRE debt owed by both corporate and noncorporate businesses. The total household-sector credit includes debt owed by other entities, such as nonprofit organizations. GDP is gross domestic product.
* Leveraged loans included in this table are an estimate of the leveraged loans that are made to nonfinancial businesses only and do not include the small amount of leveraged loans outstanding for financial businesses. The amount outstanding shows institutional leveraged loans and generally excludes loan commitments held by banks. For example, lines of credit are generally excluded from this measure. The average annual growth rate shown for leveraged loans is computed from 2000 to 2020:Q4, as this market was fairly small before 2000.
Source: For leveraged loans, S&P Global, Leveraged Commentary & Data; for GDP, Bureau of Economic Analysis, national income and product accounts; for all other items, Federal Reserve Board, Statistical Release Z.1, "Financial Accounts of the United States."
The ratio of total nonfinancial debt to gross domestic product remains above its trend
For several years before the pandemic, the combined total debt owed by businesses and households grew at a pace similar to that of nominal GDP. In the first half of 2020, strong business borrowing and a precipitous drop in GDP pushed the credit-to-GDP ratio to historical highs. In the second half of 2020, this ratio fell markedly, as GDP partially rebounded and business debt was little changed (figure 2-1). The household debt-to-GDP ratio also declined sharply later in the year, returning to its pre-pandemic range (figure 2-2).
The ratio of business debt to gross domestic product declined in the second half of 2020
Business debt increased little in the second half of 2020, while nominal GDP grew 10 percent over the same period. Firms paid down their earlier pandemic-driven draws on credit lines, and loan originations fell. A decline in net bond issuance further moderated the increase in business debt in the fourth quarter (figure 2-3). Except in some hard-hit industries, credit-line drawdowns have returned to normal levels. Reduced outlays, recovering profits, slow share repurchases, and funds raised through corporate bond issuance contributed to firms' holdings of liquid assets. Moreover, low interest rates continued to mitigate, to some degree, investor concerns about default risk arising from high leverage. Meanwhile, the net issuance of riskier forms of business debt—high-yield bonds and institutional leveraged loans—was solid, on average, over the past three quarters (figure 2-4).
Business debt vulnerabilities remain elevated
As the growth in outstanding debt slowed appreciably, an indicator of the leverage of large businesses—the ratio of debt to assets for all publicly traded nonfinancial firms—declined significantly in the second half of 2020 but still remains modestly above levels seen leading up to the pandemic (figure 2.5). An alternative indicator of business leverage that subtracts cash holdings from debt—net leverage—decreased even more sharply as firms continued to stockpile cash. For firms in industries particularly hard hit by the pandemic—airlines, hospitality and leisure, and restaurants—gross leverage is still high, but net leverage has been roughly flat over the past year, as these firms borrowed funds to build their cash buffers.
As earnings began to recover and interest rates remained low, the ratio of earnings to interest expenses (the interest coverage ratio) moved up over the second half of last year, suggesting firms were better able to service debt. The interest coverage ratio for the median firm rose to near its historical median (figure 2-6).
An important caveat to these improvements in leverage and interest coverage ratios is that comprehensive data are only available for publicly traded firms. These firms, which tend to be larger, have been able to access capital markets to weather the disruptions of the past year. Small and middle-market firms that are not public, by contrast, frequently have higher leverage than public firms and generally rely on other sources of funding, such as loans from banks, private credit funds, and other investors. Funding from these sources appears to have tightened, on net, over the past year, potentially leaving these smaller firms more vulnerable to shocks.8
Credit quality, which deteriorated after the onset of the pandemic, has stabilized more recently. The pace of corporate bond downgrades came down to normal levels in the second half of last year. The fraction of nonfinancial corporate bonds that are high yield is little changed since the November report. Around half of nonfinancial investment-grade debt outstanding has the lowest investment-grade rating (triple-B), which is still near an all-time high. Expected bond defaults have continued to decline and are now below their long-run medians. Moreover, because firms have been refinancing existing debt with longer-maturity bonds at low interest rates, only about 5 percent of outstanding bonds rated triple-B and about 3 percent of outstanding speculative-grade bonds mature within one year.
Expected default rates on leveraged loans have fallen, although underwriting standards appear to have weakened. The default rate on leveraged loans increased rapidly early in the pandemic but has declined since last summer (figure 2-7). Additionally, downgrades of leveraged loans have slowed significantly over the same period, returning to their pre-pandemic pace. However, the share of newly issued loans to large corporations with high leverage—defined as those with ratios of debt to earnings before interest, taxes, depreciation, and amortization greater than 6—has exceeded the historical highs reached in recent years (figure 2-8).
Vulnerabilities from debt owed by small businesses have decreased, but many small businesses remain financially strained
While many small businesses closed or significantly scaled back their operations as a result of measures to contain the pandemic, credit quality for the small businesses that have continued operating or reopened has stabilized in recent months. Short-term loan delinquencies have declined notably since last summer, and long-term delinquencies have also ticked down, indicating an improvement in firms' balance sheets. Loans extended under the PPP have provided financial support to many small businesses. Liquidity provided through the PPPLF continues to facilitate PPP lending, particularly among smaller lenders (see the box "The Paycheck Protection Program Liquidity Facility"). With pandemic-related restrictions on business operations continuing to be lifted, survey evidence suggests that a declining, though still sizable, share of small firms expect to need additional financial assistance.
Stresses on households have decreased, although some households remain vulnerable
Over the past year, an unprecedented number of households experienced significantly lower earnings due to business closures and unemployment stemming from the COVID-19 pandemic. Job losses were heavily concentrated among the most financially vulnerable, including many lower-wage workers and racial and ethnic minorities.
The financial positions of many households appear to have improved since the previous Financial Stability Report, supported by a stronger economy. Household incomes and balance sheets have also been broadly and significantly supported by fiscal programs—including the expanded unemployment insurance and direct stimulus payments in the Consolidated Appropriations Act, 2021, and the American Rescue Plan Act of 2021—and by forbearance programs that have allowed many households to delay loan payments. In the second half of 2020, aggregate household cash and checkable deposits nearly doubled from about $1.6 trillion to roughly $3 trillion, with notable increases apparent across the income distribution. Still, some households remain financially strained and more vulnerable to future shocks.
Borrowing by households has continued rising at a modest pace
Through December of last year, household debt (adjusted for general price inflation) edged higher on net. Debt owed by the roughly one-half of households with prime credit scores continued to account for almost all of the growth. By contrast, inflation-adjusted loan balances for borrowers with near-prime credit scores changed little over 2020, and balances for borrowers with subprime scores fell (figure 2-9). This decrease is largely attributable to relatively tight lending standards for such borrowers and to a decline in the share of borrowers with low credit scores, as forbearance programs appear to have contributed to a noticeable upward shift in scores in the bottom of the credit score distribution.
The share of mortgages either delinquent or in loss mitigation remains well above normal
Mortgage debt accounts for roughly two-thirds of total household credit, with mortgage extensions skewed toward prime borrowers in recent years (figure 2-10). Widespread loss-mitigation measures have helped reduce the effect of the pandemic on mortgage delinquencies (figure 2-11).9 The share of mortgages that are either delinquent or in loss mitigation was 5.8 percent in February 2021, down from its recent peak of 8.9 percent in May 2020.10 Since the November report, many loss-mitigation programs have been extended through at least the summer of this year, providing additional support to households.
Borrowers still in mortgage forbearance may be more vulnerable to the end of government support as well as to adverse shocks. Survey evidence suggests that these borrowers are more likely to be employed in industries hard hit by the pandemic, to have suffered income losses in the past year, and to be delinquent or in forbearance on other forms of debt. Even so, a large fraction of borrowers have already exited forbearance—in general, these borrowers have loans that are either current or paid off.
At the same time, the significant growth in house prices over the past year, noted earlier in this report, has contributed to the very low estimated share of outstanding mortgages with negative equity (figure 2-12). The ratio of outstanding mortgage debt to home values at the end of last year remains at a modest level (figure 2-13).
Consumer credit edged down
Most of the remaining one-third of total debt owed by households is consumer credit, which consists mainly of student loans, auto loans, and credit card debt (figure 2-14). Table 2 shows that consumer credit edged down in 2020 and currently stands at a little more than $4 trillion. Auto loan balances expanded moderately, on net, over 2020, driven entirely by borrowers with prime and near-prime credit scores (figure 2-15).
Although conditions for many households have improved, some households continue to struggle to make consumer debt payments
After jumping to a peak of about 9 percent in June 2020 in response to the COVID-19 outbreak, the share of auto loans that were either delinquent or in loss mitigation declined to 4.5 percent in February (figure 2-16). Many auto loan borrowers in loss mitigation have not made a payment in several months. As of February, nearly 3.5 percent of all auto loans had received no payments since November, although a large fraction of those loans were in loss mitigation.
Consumer credit card balances contracted sharply in 2020 in response to depressed consumer spending, declines in credit card utilization rates, and a drop in new card originations (figure 2-17). Some evidence suggests that the share of credit card balances in forbearance has declined notably from last summer but remains above its pre-pandemic levels. The share of credit card balances in delinquency was roughly flat for borrowers with prime and near-prime credit scores between October and December, following earlier declines, while delinquency rates for borrowers with subprime scores ticked up in December (figure 2-18).
Finally, the risk that student loan debt poses to the financial system appears limited at this time. Most of the loans were issued through government programs and are owed by households in the top 40 percent of the income distribution. Moreover, protections originally introduced in the Coronavirus Aid, Relief, and Economic Security Act (CARES Act)—and later extended—guarantee payment forbearance and stop interest accrual through September 2021 for most federal student loans.
The Paycheck Protection Program Liquidity Facility
The PPP was established at the outset of the pandemic by the CARES Act to provide payroll support to small businesses and other small organizations. Under the PPP, lenders make loans that are guaranteed by the Small Business Administration (SBA) and are forgivable if the borrower uses the proceeds to keep workers on its payroll and to pay related expenses. The PPP opened on April 3, 2020, and closed on August 8, 2020. Following the enactment of the Economic Aid to Hard-Hit Small Businesses, Nonprofits, and Venues Act (Economic Aid Act), the PPP reopened on January 11, 2021, and the SBA will stop receiving applications for PPP loans on May 31, 2021. Through March 28, 2021, the SBA has approved 8.7 million PPP loans totaling $734 billion.
On April 9, 2020, the Federal Reserve, with the approval of the Secretary of the Treasury, announced the establishment of the PPPLF as an emergency lending program under section 13(3) of the Federal Reserve Act. The PPPLF was designed to bolster the effectiveness of the PPP by supplying liquidity to SBA-approved PPP lenders and to increase those lenders' capacity and confidence to make PPP loans. On April 16, 2020, the PPPLF began operations by making advances to banks.1 On April 30, 2020, the Federal Reserve expanded the PPPLF to include all PPP lenders, including nonbanks.
Under the PPPLF, the Federal Reserve provides nonrecourse advances to PPP lenders that pledge PPP loans. As PPP loans are fully guaranteed by the SBA, the PPPLF takes the PPP loans as collateral at face value. The terms of the PPPLF that provide support to the PPP include the following:
- The PPPLF provides complete, risk-free, matched-maturity funding for pledged PPP loans.
- PPP lenders may obtain PPPLF funding for whole PPP loans that they have purchased as well as those that they originated.
- For banks, PPP loans receive a 0 percent risk weight under risk-based capital rules, and PPP loans that are pledged to the PPPLF are excluded from leverage ratio calculations.2
The PPPLF was originally scheduled to terminate on September 30, 2020; the termination date has since been extended to June 30, 2021.
PPPLF program usage
As shown in table A, the PPPLF has been the most heavily used of the emergency lending facilities established by the Federal Reserve to support the continued flow of credit to households, businesses, and state and local governments during the pandemic.3 More than 850 PPP lenders—from all 50 states and the District of Columbia and including almost 70 nonbanks—have taken out PPPLF advances. For lenders that have not participated in the PPPLF, the existence of the facility may have provided comfort in continuing to make PPP loans with the knowledge that funding is available if needed.
Table A. Funding, Credit, Liquidity, and Loan Facilities
|Facility||Amount outstanding, 3/31/2021 billions of dollars||Peak Wednesday amount outstanding billions of dollars||Date of peak Wednesday amount outstanding||Program termination date|
|Primary Dealer Credit Facility (PDCF)||0||33.4||4/15/2020||3/31/2021|
|Money Market Mutual Fund Liquidity Facility (MMLF)||0.3||53.2||4/8/2020||3/31/2021|
|Commercial Paper Funding Facility (CPFF)||0||4.2||5/13/2020||3/31/2021|
|Paycheck Protection Program Liquidity Facility (PPPLF)||58.5||70.8||7/29/2020||6/30/2021|
|Secondary Market Corporate Credit Facility (SMCCF)||14.0||14.1||1/6/2021||12/31/2020|
|Municipal Liquidity Facility (MLF)||6.2||6.4||12/23/2020||12/31/2020|
|Term Asset-Backed Securities Loan Facility (TALF)||2.3||4.1||12/23/2020||12/31/2020|
|Primary Market Corporate Credit Facility (PMCCF)||0||0||--||12/31/2020|
|Main Street Lending Program (Main Street)||16.5||16.6||1/13/2021||1/8/2021|
|Memo: Discount Window Primary Credit since 3/15/2020||.9||50.8||3/25/2020||--|
… Not applicable.
Source: Federal Reserve Board, Statistical Release H.4.1, "Factors Affecting Reserve Balances"; Federal Reserve Bank of New York, Commercial Paper Funding Facility Data.
The PPPLF has provided important support for enabling mission-oriented community development financial institutions (CDFIs), minority depository institutions (MDIs), and other small banks to support very small businesses. Among banks that have participated in the facility, community banks (those with $10 billion or less in assets) have received more than 90 percent of the advances from the PPPLF. Moreover, about 100 CDFIs and MDIs, which provide financial services to economically underserved communities, have borrowed from the PPPLF.
As shown in figure A, the dollar volume of PPPLF advances outstanding rose sharply following the facility's establishment and reached a peak of more than $70 billion in early August 2020. Starting in August, outstanding advances declined slowly as new PPP lending stopped after the program's 2020 closure and as some PPPLF participants prepaid their advances. Advances declined more steeply later in 2020 as the SBA began making forgiveness payments on PPP loans. When payments (including forgiveness payments) are made on pledged PPP loans, PPPLF participants are obligated to pay down the associated PPPLF advances. In January 2021, new PPP lending resumed, and PPPLF advances outstanding began increasing again.
The net decline in PPPLF advances since their peak almost entirely reflects declines in advances to banks—the dashed line in figure A. In contrast, PPPLF advances to nonbanks—the dotted line—continued to increase in late 2020, even while there was no new PPP lending, and have accelerated since PPP lending resumed in 2021.
Factors affecting PPPLF borrowing by banks and nonbanks
PPPLF borrowing by banks declined in the latter part of 2020, reportedly in part because of PPPLF participants prepaying their advances after deciding that they no longer needed the PPPLF liquidity. As shown in figure B, banks experienced significant deposit growth starting in spring 2020, resulting in an increase in low-cost funding for many banks. In addition, as shown in figure C, the cost of term bank funding sources, which was relatively elevated immediately after the onset of the pandemic, has fallen to levels closer to the PPPLF lending rate of 35 basis points, providing many banks with more affordable alternatives to the PPPLF.
Nonbank participants in the PPPLF include established SBA community lenders, such as CDFIs and SBLCs (small business lending companies), as well as newer types of institutions, such as fintechs. Nonbanks are important PPP lenders, as they may reach businesses that banks are not serving, such as very small businesses or businesses in economically distressed areas, and their average PPP loan size is significantly smaller than that of banks. Nonbanks typically lack the funding base and access to funding sources that banks enjoy, making access to the PPPLF potentially important for their ability to make PPP loans. The lack of funding alternatives is likely an important reason why nonbank PPPLF borrowing has continued to increase.
1. As used here, the term "banks" consists of all types of depository institutions, including savings associations and credit unions. Return to text
2. For more information on the regulatory capital effects of banks' participation in the PPPLF, see Board of Governors of the Federal Reserve System, Federal Deposit Insurance Corporation, and Office of the Comptroller of the Currency (2020), "Federal Bank Regulators Issue Interim Final Rule for Paycheck Protection Program Facility," joint press release, April 9, https://www.federalreserve.gov/newsevents/pressreleases/bcreg20200409a.htm. Return to text
3. More information on the other Federal Reserve facilities is available on the Board's website at https://www.federalreserve.gov/funding-credit-liquidity-and-loan-facilities.htm. Return to text
8. It is important to note, however, that the credit aggregates shown in figures 2-1, 2-2, and 2-3 include debt from all firms, both public and private. Return to text
9. "Loss mitigation" is a broad term that describes a variety of programs implemented by lenders to help borrowers cope with payments, including the loan forbearance programs described in the May 2020 Financial Stability Report, payment deferrals, loan modifications (including federal government plans), and loans with no scheduled payments and a nonzero balance. Return to text
10. Note that some alternative data sources classify mortgages that are in nonpayment status as delinquent, whether or not they are in loss-mitigation, leading to a higher reported delinquency share. Return to text