Rising Liquidity among U.S. Households and Its Policy Implications

HANK models are “changing the discipline” of macroeconomics, according to a recent Financial Times article. HANK, or heterogeneous agent New Keynesian, models are becoming extremely important not only in the economics literature but also to fiscal and monetary policymakers. One of the key ingredients to this literature, and the focus of this blog post, involves the liquid asset holdings of households, as well as the share of “hand-to-mouth” households.See Greg Kaplan, Benjamin Moll and Giovanni Violante’s 2018 article, “Monetary Policy According to HANK,” in the American Economic Review.

These HANK frameworks need an estimate of the degree to which model agents based on consumers or households are Ricardian. This means, essentially, how forward-looking consumers are. Imagine that the government gives consumers a fiscal transfer today—for example, the COVID-19 stimulus checks—and the government finances the payments with debt. Moreover, the government announces it will raise taxes next year to pay back the debt.

Will consumers spend the money from the transfer, or will they save the money from the transfer to pay future taxes? The latter option is representative of a “Ricardian” agent. How much liquidity households save, or how “Ricardian” they are, is an important characteristic of the HANK models and contributes to understanding the prevalence of households that are hand to mouth—that is, they will spend the money when they get it. Knowing how many households are of this type is very important for understanding the effectiveness of fiscal policy. In this blog post, we review and provide new estimates of the fraction of U.S. households that are hand to mouth.

The Household “Safety Net”

In personal finance, a commonly taught lesson is to maintain a safety net. In practice, this safety net is often a liquid fund, such as a savings account, where one saves money in case of an emergency expense like a health emergency or car repair. In the figure below, we show the median of liquid assets relative to income across households, using data from the Federal Reserve’s triennial Survey of Consumer Finances.

Liquid Assets over Income

SOURCES: Survey of Consumer Finances and authors’ calculations.

NOTE: The data are for the years covered by the triennial Survey of Consumer Finances.

Most recently, in 2022, liquid assets over income hit nearly 15%, its highest point over the period examined. This is almost three times the percentage during the final year of the Great Financial Crisis, 2010, which was 6.2%. Since 2010, the percentage has steadily increased, reaching 10.4% by 2019 before jumping 4.5 percentage points—its largest change in the survey’s recent history—to 14.9% in 2022. This large increase in liquid wealth may be due to excess savings created by direct federal assistance and the drop in consumption that occurred during the COVID-19 pandemic. This increase in liquid assets over income could have important implications for the calculation of hand-to-mouth households.

What Does It Mean to Be Hand to Mouth?

Despite liquid assets as a percentage of income being on the rise, many Americans live with little to no financial safety net. This at-risk group, with limited liquid assets on hand, has been labeled by academics as “hand-to-mouth” households. Essentially, this group of people spends money as soon as they get it, because they have no savings and a high desire for consumption today; thus, they are called hand to mouth.

In their 2014 article “The Wealthy-Hand-to-Mouth,” Greg Kaplan, Giovanni Violante and Justin Weidner calculated that the share of hand-to-mouth households in the U.S. was 30%, using data from 1989 to 2010.In their 2014 article “The Wealthy-Hand-to-Mouth” in Brookings Papers on Economic Activity, Greg Kaplan, Giovanni Violante and Justin Weidner defined people as being hand-to-mouth if they meet either of these two criteria: 1) They have positive liquid assets, but those liquid assets are less than one week of their income, or 2) they have negative liquid assets, and their negative liquid assets are larger than three weeks of their income. The authors defined liquid assets as cash, stocks and bonds less any credit card debt, so it is possible by their definition to have negative liquid assets. For the second criteria, they assumed that people can borrow up to a certain amount before they hit their limit, and thus use three weeks of income as their “credit line.” If liquid assets are more negative than this credit line, then people are hand-to-mouth. In our blog post, we use their methodology and update the data through 2022. We found that while the assumption of 30% may be accurate for the period they analyzed, this percentage may be changing.

In the figure below, we show the percentage of total hand-to-mouth households in the U.S. This figure is based on Figure 3a from Kaplan, Violante and Weidner’s paper.

Percentage of Hand-to-Mouth Households in the U.S.

SOURCES: Survey of Consumer Finances and authors’ calculations.

Our analysis shows that between 1989 and 2010, the share of hand-to-mouth households was roughly constant at 24%-31%. For example, if we plot a simple trend line on the data from 1989 to 2010, the slope is 0.07. This is interpreted as a 0.07 percentage point increase per year in the share of hand-to-mouth households between 1989 and 2010, all else held equal.

However, starting in 2013, we see a pattern of decline in the share of hand-to-mouth households. The trend line from 2013 to 2022 has a slope of -0.94, or a nearly 1 percentage point drop per year. By 2022, the share of hand-to-mouth households was 18.7%. Hence, over the last 12 years, the share of hand-to-mouth households fell by 12 percentage points, from 31% to 19%. This is a significant change in the share of hand-to-mouth households, which has important implications for the effectiveness of fiscal policy.

Hand-to-Mouth Conditions Can Impact the Effectiveness of Certain Policies

In an economy in which households have more liquid asset holdings and there are fewer hand-to-mouth households, transitory policies aimed at affecting household consumption (for example, the previously mentioned COVID-19 stimulus checks) may be less effective, assuming these households are Ricardian and all else being equal. The reason is that as households anticipate the change in future taxes to finance current stimulus, they will change their saving behavior instead of their consumption; that is, they’ll save the windfall rather than spend it.

As the HANK literature continues to grow and be integrated into policymaking, it is increasingly important to ensure that the inputs to the models are timely. Given the cyclicality and medium-term fluctuations in the trend of liquid asset holdings and the share of hand-to-mouth households in the data, it will be important to consider in the policy analysis aggregate fluctuations in hand-to-mouth households consistent with these patterns.

Notes

1. See Greg Kaplan, Benjamin Moll and Giovanni Violante’s 2018 article, “Monetary Policy According to HANK,” in the American Economic Review.
2. In their 2014 article “The Wealthy-Hand-to-Mouth” in Brookings Papers on Economic Activity, Greg Kaplan, Giovanni Violante and Justin Weidner defined people as being hand-to-mouth if they meet either of these two criteria: 1) They have positive liquid assets, but those liquid assets are less than one week of their income, or 2) they have negative liquid assets, and their negative liquid assets are larger than three weeks of their income. The authors defined liquid assets as cash, stocks and bonds less any credit card debt, so it is possible by their definition to have negative liquid assets. For the second criteria, they assumed that people can borrow up to a certain amount before they hit their limit, and thus use three weeks of income as their “credit line.” If liquid assets are more negative than this credit line, then people are hand-to-mouth.