RDP 2021-10: The Rise in Household Liquidity 3. How Do We Measure Household Liquidity?

Gianni La Cava and Lydia Wang

November 2021

3.1 Data

In exploring the liquidity of household balance sheets we rely on a range of indicators, including aggregate national accounts data and various household surveys.

Aggregate household liquidity buffers are measured using national accounts data from the Australian Bureau of Statistics (ABS). The aggregate household liquidity buffer is the ratio of household liquid assets to disposable income. Household liquid assets is the sum of currency and deposits, bonds and equities in the financial accounts.[5] Household disposable income is gross disposable income and comes from the national accounts.

Our household-level data primarily come from the ABS Survey of Income and Housing (SIH) and the Household, Income and Labour Dynamics in Australia (HILDA) Survey. The SIH is a household survey that collects information on income, wealth, housing and various other household and personal characteristics. The SIH household-level data are available for biennial years from 2003/04 to 2017/18.[6] The SIH person-level data include characteristics such as labour force status, industry of work, hours worked and education. Since 2007/08, the SIH includes a loan-level module that contains characteristics of each loan, including the main purpose of a loan, amount borrowed, principal outstanding and year of loan origination. We use the Household Expenditure Survey (HES) collected by the ABS as a complement to the SIH. The HES and the SIH are run together every six years, and 2015/16 is the latest cycle of the joint surveys. Since 2003/04, the HES has also included a loan-level module, which allows us to explore loan-level data spanning two decades.

The HILDA Survey is an annual Australian survey that tracks a representative group of individuals (roughly 17,000 people from 9,000 households) between 2001 and 2019. Through personal interviews and self-completed questionnaires, the survey collects detailed information on households, including income and spending. Every four years the survey includes a wealth module, which collects detailed information on household assets and liabilities; the latest observation for household wealth is for 2018.

The ABS distributional accounts integrate micro (the SIH) and macro (national accounts) sources and produce distributional information of household income, consumption and wealth. This dataset is broadly representative of the Australian household sector and includes people living in non-private dwellings (such as nursing homes) and people in very remote communities, who are often out-of-scope in micro datasets. In this dataset, the relevant household information, such as age, is grouped according to a designated ‘household reference person’.[7] The distributional accounts divide household assets, debts and income into different income, wealth and age groups. This allows us to track how liquidity buffers evolve within each group. The time series are available for biennial years from 2003/04 to 2017/18. Household liquidity buffers are measured using the same method as the national accounts.

We also use banking data on household balance sheets. The Australian Prudential Regulation Authority (APRA) collects monthly statistics from authorised deposit-taking institutions, such as banks. This information includes the number and value of offset and redraw accounts, as well as household deposits, at each institution.

3.2 Definitions

3.2.1 Household liquidity buffers

Household liquidity buffers are measured as the ratio of household liquid assets to household disposable income. Here, household liquid assets includes cash, bank deposits, equities and bonds. Where possible, liquid assets also include mortgage offset and redraw accounts. The exact measurements vary in different household surveys depending on data availability. For the cross-sectional analysis in the 2017/18 SIH, we also consider an alternative measure in which superannuation balances are assumed to be fully liquid for retired households.

In the SIH, for households with mortgage debt, mortgage prepayments (offset and redraw accounts) are included in the measure of liquidity buffers where possible. Since 2011/12, the SIH has included information on the value of offset accounts, but we do not directly observe the balance of redraw accounts. Instead, we estimate redraw balances for amortising loans based on other information drawn from the SIH loan-level data. This includes the year of loan origination and the current (and initial) loan balance.[8] The relevant interest rate is derived from RBA statistical table ‘F5 Indicator Lending Rates’.

The scheduled payment is calculated using a standard loan amortisation formula that has a 30-year loan term and an interest rate equal to the average annual variable interest rate:

s= D 0 i ( 1+i ) n [ ( 1+i ) n −1 ]

where D0 is the initial loan balance, i is the interest rate and n is the loan term.

The scheduled payment can then be split into the interest component by multiplying the interest rate by the outstanding loan balance and the principal component which is the residual.

The redraw balance is the difference between the estimated scheduled balance and the reported outstanding balance, where the scheduled balance ( Ds ) is calculated as:

D s = D 0 [ ( 1+i ) n − ( 1+i ) k ] [ ( 1+i ) n −1 ]

where all the terms are as before, except for the inclusion of the remaining loan term ( k ). The derivation of these formulae can be found in Appendix A. The definition of liquid assets in the HILDA Survey does not include offset and redraw accounts because it is not possible to separate out the value of offset accounts from total deposits due to changes over time in the treatment of offsets in the survey.

3.2.2 Liquidity-constrained (or ‘hand-to-mouth’) households

We follow the framework of Kaplan, Violante and Weidner (2014) to estimate the share of households that are liquidity constrained, or hand-to-mouth. This is based on a two-period intertemporal consumption model in which households make two decisions: 1) how much of their income to save, and 2) how much to save in the form of liquid versus illiquid assets. The illiquid asset offers a higher return than the liquid asset, but there is a transaction cost associated with accessing it. Conceptually, households have two kinks in their budget constraints – one at zero liquid assets (a household can have negative liquid assets if they borrow, but this is costly), and one, if they do have access to credit, at their credit limit. Under certain parameters, some households will choose to save entirely through illiquid assets: that is, they optimally choose not to smooth through fluctuations in income, and instead keep only as much liquid wealth as they intend to consume in that period. In other words, constrained households optimally choose to consume at the kinks, implying that they will have a marginal propensity to consume out of income which is equal to unity.

In practice, identifying households that are at these kinks is a challenge. Ideally, we would observe each household at the end of their pay period in order to identify their outstanding level of liquid assets. But the annual surveys are snapshots at a single point in time (usually the date of the interview) that will not necessarily correspond to the end of the pay period. Moreover, even people who spend all of their income each pay period will spend it only gradually. So, at the time of the interview, some households that report having positive liquid assets (because they are in the middle of a pay period) will have zero liquid wealth by the end of the period. These households will be wrongly classified as not hand-to-mouth if we look only for households with liquid assets exactly at the budget constraint kinks at the time of the interview. Accordingly, the number of surveyed households that report having zero liquid assets (or negative liquid assets equal to their credit limit) is likely to underestimate the total number of hand-to-mouth households.

To partly account for this timing problem, we follow their methodology in assuming that households consume their liquid assets at a constant rate, and identify households as ‘hand-to-mouth’ (HtM) if:

  • their liquid wealth balance is positive, but less than half their income each pay period; or
  • their liquid wealth balance is negative, and is less than the difference between half their income each pay period and a credit limit.

We can also divide hand-to-mouth households into two groups:

  1. the wealthy hand-to-mouth, who have positive illiquid asset balances; and
  2. the poor hand-to-mouth, who have zero or negative net illiquid assets.

Footnotes

Less than a fifth of bank household deposits are term deposits, which could be considered partly liquid, as they are able to be converted to cash only with advance notice and by paying a fee. We cannot directly identify term deposits in the household survey data. [5]

The 2007/08 SIH is omitted as some of the wealth variables were not collected. [6]

The household reference person is selected by the ABS based on a range of factors including home ownership status, income and age of the individuals within a household. [7]

The loan-level data required to estimate redraw balances are available in 2003/04, 2007/08 to 2017/18. [8]