It’s easy to understand worry. Four of the largest monthly increases in consumer credit on record have come this year, with outstanding balances rising by an average of $33.1 billion per month over the past six months, according to Federal Reserve data. To put that into context, the monthly average for all of 2019 was just under half that amount at $15.4 billion. The numbers are certainly shocking, but there are indications that they are mostly healthy and normal.
First consider revolving credit, which includes credit cards. This form of credit contracted dramatically early in the pandemic as consumers had fewer spending options and used excess savings and stimulus checks to pay off balances. Now, consumers are just catching up, as the amount of outstanding revolving credit remains below the pre-pandemic trend line. If it breaks above the past trend, that would indicate broader inflation-induced distress, but the financial system is usually not even close to that point. Of course, many low-income households suffer from the price spikes and are forced to use their credit cards. But there are no signs of a debt problem that could harm the economy.
Non-revolving credit is a slightly different story. These are primarily education loans and car loans, but it also includes financing for other big-ticket items such as boats and trailers that have grown in popularity during the pandemic. This category has seen a pandemic-era expansion that beats the trend, and automobiles, which account for 39% of non-revolving credit and 30% of consumer credit, appear to be the main culprit. This is due to the extraordinary spike in car prices in 2021 and, perhaps to some extent, the added interest in car ownership due to public health concerns. Many people who once used public transport preferred to opt for the better social distancing of a vehicle.
Although much smaller than the auto segment, the real juggernaut of loan growth has been the “other” category of non-revolving credit, including the aforementioned maritime toys. Early in the pandemic, coastal communities saw an explosion of interest in boating in response to social distancing guidelines. But this category is too minor to have a large impact. Also, boat owners don’t usually live paycheck to paycheck as a rule, so cross that off the list of potential factors for a structural leverage crisis. If there was cause for concern in the consumer credit data, it would be found in the non-revolving credit section. But growth in this segment peaked earlier in the year and showed signs of moderating in the latest report. Last month’s increase was the smallest since January.
Finally, the household debt service ratio – the ratio of debt repayments to disposable income – is near historic lows. This is thanks to opportunities to refinance debt at low rates in 2020 and 2021 and the influx of trillions of dollars in government cash during the Covid-19 pandemic. As painful as inflation is, homeowners with fixed-rate mortgages, which account for the vast majority of home loans, may have enjoyed pay rises as their biggest liabilities stayed the same or were renegotiated. at lower rates. If we add consumer debt and mortgages, the total burden remains extremely modest.
None of this means there is nothing to worry about. The economy faces elevated risks of recession, in part because of the Fed’s rapid rate hikes to rein in inflation, and many economists predict unemployment could rise in the process. No job means no income, and the debt service ratios that seem so low today could rise quickly if the labor market stumbles. No group would suffer more than low-income households who have already begun to spend their cash reserves to meet inflation. But from a systemic perspective, household finances appear to be starting from a position of strength. For now, at least, the boom in consumer credit looks like much ado about nothing.
This column does not necessarily reflect the opinion of the Editorial Board or of Bloomberg LP and its owners.
Jonathan Levin has worked as a Bloomberg reporter in Latin America and the United States, covering finance, markets, and mergers and acquisitions. Most recently, he served as the company’s Miami office manager. He holds the CFA charter.
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