The Future Of Consumer Credit

Growth in consumer credit has sparked concern about credit quality. How will credit unions know when it’s really time to worry?

 
 

Consumer credit growth in 2016 was relatively strong, and that has sparked some concern about consumers stretching themselves too thin. I’ve fielded several consumer credit questions recently, the most common being, “Should we worry about credit quality?” Another common question is, “Does the consumer sector have room to borrow more, or are we done?”

Being an economist, my answer is “yes” on one hand and “no” on the other.

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There’s No Need To Worry

From most every perspective, the consumer is not tapped out. Growth in credit has been strong, but that strength comes after a period of extreme paydowns and write-offs.

Consider the following:

  • Household Debt Service Ratio — This is the ratio of debt payments to disposable income. It grew slowly but steadily over decades as the use of credit became more accepted and was 11.50% in 2000. The surge in mortgage credit ballooned the ratio to 13.20% in 2007, but it is now back to a manageable 9.85%, according to the Federal Reserve Bank.
  • Types of credit — Mortgage debt peaked in early 2008 at almost $13 trillion, but write-offs and payoffs brought the total down to $11.1 trillion in 2012. Even with the resurgence in home prices and sales and the growth in new home construction, the total stands at $12.5 trillion. After almost nine years of population growth and a resurgence of new household formation in the past couple of years, mortgage debt is still below the peak.
  • Non-mortgage debt — Since 2003, total debt outstanding for credit cards, autos, and student loans has grown from $1.5 trillion to $3.2 trillion. That might sound like a lot, but it is a compounded growth rate of only roughly 6%. A breakdown shows that almost $1 trillion of the $1.7 trillion increase in gross debt is from student loans. The remaining $700 billion is basically split between cards and autos. That is a compound growth rate of 2.5%. Again, considering population growth, etc., this is hardly the stuff of credit crises.

On the quality side, subprime auto lending default rates have risen but are not out of line with historical norms. Moreover, the increases have been mostly confined to auto finance companies. More importantly, credit union data shows delinquencies and charge-offs are back within historical norms.

There will always be people that get in over their heads regardless of the economy, and unexpected life events — death, divorce, catastrophic medical costs — happen, too. But there is no reason to worry about credit growth or quality … yet.

The job market is the one thing you have to watch; the other numbers are fillers.

It’s Time To Worry

If you are looking for guideposts as to when and why you should start to worry, don’t bother with the data above. Start with weekly jobless claims.

Weekly jobless claims are currently running near historic lows of 240,000. If claims trend higher to 350,000 or so, start to worry. Ramp up your worries if you see monthly nonfarm payroll gains approaching zero.

A soft job market will hinder credit demand. More importantly, any amount of credit is too much if someone loses their job. The job market is the one thing you have to watch; the other numbers are fillers.

There are risk factors for the economy and the job market that we can’t dismiss, including an implosion of President Trump and political turmoil in Europe. All bets are off if those come into view, but you can’t build business plans on the worst-case scenario.

The fact is, as long as job growth is strong, credit demand will grow and delinquencies will not be a concern. On the economic front, barring the realization of certain risks, I remain positive. We’ll have fits and starts as Trump and Congress get down to the real business of tax reform and budgets, but assuming a reasonable outcome, we can look forward to a good year.

Members will borrow and repay their debt, and credit unions will continue to thrive.

Dwight Johnston is the chief economist of the California and Nevada Credit Union Leagues and president of Dwight Johnston Economics. He is the author of a popular commentary site and is a frequent speaker at credit union board planning sessions and industry conferences.