Total debt is the debt of all sectors: Households, Businesses, Government, Banking, and Foreign. Median family income is the income of the "middle" family when families are ordered by rising incomes.

A good amount of total debt (on a "per family" average) is something less than 4 times the median family income.

Good Debt

Good debt is a belated result of good savings, because of the necessity for annual economic investments.

Annual investments are required in order to keep an economy afloat for several reasons, including depreciation of capital goods and materials as well as population growth (more people=more need), among several other reasons.

The amount of annual investment required in order for good economic health and growth is above 15% of GDP.

The best way to pay for this investment is out of prior savings--equity financing--because when savings are used in order to fund investment, the debt-to-income ratio (a measure of national leverage) does not rise.

An example of good debt occurred in the 18 years from 1954-1972, when the ratio of "total debt to median family income" did not rise at all. Total debt per US family remained below 4 multiples of the median family income--indicating that investments were getting funded by prior savings.

Bad Debt

Bad debt occurs when the necessary annual investments do not come from prior savings. This is known as "debt financing" and results in a rising ratio of debt to income. It is important because it is not just your income which determines your prosperity, it is the ratio of your income to your debt.

A person earning twice the income of another person may "feel" twice as rich as the other, but not if his or her debt is 10 times the debt of the other person.

In such a case, it is better to be the person with half the income, but only one-tenth of the debt, because your living standards can instantly improve with just a little extra debt or investment.

This is not the case for the person who already has 10 times as much debt.

Their living standard cannot improve from just a little extra debt or investment. Being already "over-leveraged", such a person cannot obtain new debt at the same low cost, and any new income gain is divided up more in order to service their debt (pre-existing + new).

A term for this reality is: Diminishing Marginal Utility (or Value) of Debt.

An indicator that bad debt is in the system--or that it has increased from before--is a rising ratio of household debt to business debt.

In the Housing Crisis of 2008, business debt had reached 72% of GDP (which is "too high"), but household debt had reached 97% of GDP (which is "way too high")!

Debt was being used more and more for mere consumption (primarily by households), rather than more for productive investments (primarily by businesses).

The initial rise in debt was primarily caused by "over-government"--the deficit spending and hyper-regulation which have recently overtaken the productiveness of the US economy.

In 2018, private individuals saved about $1.8 trillion, but the total (federal + state & local) government deficit was $1.2 trillion--reducing national savings to just $0.6 trillion (~3% of GDP).

If you need to invest a minimum of 15% every year--but you only save 3% every year--then your financial situation will grow worse and worse over time (until crisis).

This is depicted in the chart above not just by a rise in debt which is steeper than the rise in median income, but a rise in debt which rises exponentially (gets even steeper over time!)--while increases in income are more linear.

References (to produce chart at the top)

[1] U.S. Census Bureau, Real Median Family Income in the United States [MEFAINUSA672N], retrieved from FRED, Federal Reserve Bank of St. Louis

[2] U.S. Bureau of Labor Statistics, Consumer Price Index for All Urban Consumers: All Items [CPIAUCNS], retrieved from FRED, Federal Reserve Bank of St. Louis

[3] Board of Governors of the Federal Reserve System (US), All Sectors; Debt Securities and Loans; Liability, Level [TCMDO], retrieved from FRED, Federal Reserve Bank of St. Louis

[4] U.S. Census Bureau, Historical Family Tables (Table FM-1), retrieved from: census.gov/data/tables/time-series/demo/families/families.html

Total Debt/Median Family Income