Everyone is stressed about consumer debt. Investors dumped stocks of big banks, credit card specialists and fintech startups for fear of the pain that rising costs of living and interest rates will inflict on borrowers. What’s odd is that households in the US, UK and much of Europe are in fairly good shape and showing few signs of financial difficulty.
Consumer debt doesn’t stress banks – yet
The reasons for concern are obvious. JPMorgan Chase & Co. is cutting hundreds of U.S. home loan workers due to a slump in mortgage demand as prime lending rates surge toward 6%. At the other end of the scale, valuations have fallen among Buy Now Pay Later lenders such as Block Inc. (formerly Square) or privately held Klarna Bank AB, as investors worry about slowing spending and of increased risk. Even Goldman Sachs Group Inc. shareholders reacted badly to a Bloomberg News report last week that Marcus, its online bank, would suffer another $1.2 billion loss this year – although that was due to his significant investment in building the business rather than his loans. become sour.
The world seems fragile, especially if you spend a lot of time watching the financial markets, and consumer confidence has plummeted. But what underpins households – and potentially Western economies in general – is the huge amount of savings and debt reduction during the Covid crisis. People started this year with cash equivalent to more than 13% of 2019 gross domestic product in the UK, around 11.5% of GDP in the US and between 5.5% and 7.5% in Germany , France and Italy.
Household balance sheets are much stronger than before the pandemic. In the United States, there are far fewer subprime auto loans and credit card borrowers than before, according to Matthew Mish, credit strategist at UBS Group AG. The trend towards financial health may have been accelerated by lifestyle restrictions and income support during Covid shutdowns, but improvements had been underway since 2013.
In recent months, the share of borrowers who defaulted on their debts has increased, but is still at or below 2019 levels. worrying over the next few months, although we may see it over the next few quarters,” says Mish. “I’m more interested in consumers’ willingness to spend than their ability to spend.”
Spending remains solid for the time being. US personal consumption spending fell in May for the first time this year, but only slightly. There is no collapse in demand and spending on services has continued to grow even though purchases of goods have fallen. In addition to high savings and low debt, consumers are supported by very high employment rates and labor shortages that are helping to drive wage growth. In the United States, even high gas prices aren’t as bad as they seem.
Yet inflation is outpacing wage growth for many, and economists fear people will spend their spare cash to cope. One of the only past eras that could be a guide to what happens next is the fate after World War II. At the time, people in the US and UK entered peacetime with high savings and pent up demand which also supported inflation for years. But when Dario Perkins, a macro strategist at independent research firm TS Lombard, looked back over that period, he found that consumers weren’t splurging and, apart from a brief period in the UK, weren’t spending not altogether more than they earned. A savings cushion was protected.
Today, the money available is mostly in the hands of the wealthy, who are the least likely to spend it anyway. But those with lower incomes are still stronger financially than they have been for some time. In the United States, there are signs that people are going into debt to support their way of life. The growth of revolving credit as a share of consumer spending has jumped to levels not seen since 2007, according to data from the Federal Reserve Bank of St. Louis. Consumer credit growth hit an annualized rate of nearly 13% in March, its fastest in more than two decades.
However, debt is still relatively low: total US consumer credit as a percentage of GDP has fallen to around 18.5%, the same level as at the end of 2015. Even among untrained US borrowers university, which UBS Evidence Lab uses as an indicator of income groups, unsecured debt is barely a fifth of annual income and has been declining since 2015.
On the contrary, banks and credit card companies are eager for consumers to borrow more. Most have been telling investors for months that interest-earning card balances should soon rise again, but customers have maintained stubbornly high monthly repayments. Life is undoubtedly getting harder and more expensive for some, but bank investors seem to have overreacted so far. Monitoring employment rates will be key: if people also start losing their jobs and wage growth indicators, that’s when bad debts will multiply.
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This column does not necessarily reflect the opinion of the Editorial Board or of Bloomberg LP and its owners.
Paul J. Davies is a Bloomberg Opinion columnist covering banking and finance. Previously, he was a reporter for the Wall Street Journal and the Financial Times.
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