Consumers are out of cash but still spending … what’s the consumer mindset behind wanton spending? … debt-laden consumers are getting rejected from loans … there’s a bill coming due
U.S. consumers are setting themselves up for pain.
What happens when consumers keep spending like it’s the savings-rich days of 2021, yet they’re out of cash because it’s 2023?
The answer is headed our way – and quickly.
Here’s Bloomberg:
Real income growth has slowed to levels below the pre-pandemic trend, according to [a report from the Brookings Institution).
Meanwhile, consumers kept their spending habits from a couple of years ago, when forced inactivity and Covid government support payments bolstered their savings.
Much of that wealth gained since 2019 dissipated by the first quarter of this year, the authors said.
Meanwhile, personal consumption rebounded in June — adjusted for inflation— by the most since the start of the year, according to data from the Bureau of Economic Analysis.
“If households were to sustain their current spending trends and increasingly finance spending with borrowing, financial health could deteriorate in a worrying way,” the analysts wrote.
The Brookings Institution authors are hedging themselves with that “could” deteriorate language. The data show this deterioration is already here – and growing worse.
To illustrate, let’s start by looking at the snowballing size of consumer loans
Here’s Federal Reserve data showing the total value of U.S. consumer loans hitting all-time highs today (and crushing the high from around the pandemic in the shaded area).
And yes, some consumer debt is mortgage related, but don’t discount credit card debt.
From Lending Tree:
Americans’ total credit card balance is $986 billion in the first quarter of 2023, according to the latest consumer debt data from the Federal Reserve Bank of New York.
That’s unchanged from the fourth quarter of 2022’s record number, leaving the balance the highest since the New York Fed began tracking in 1999.
(For those wondering, we don’t have Q2 data yet.)
But wait – isn’t this a good thing? After all, if this balance didn’t increase from Q4 2022 to Q1 2023, that reveals the problem isn’t worsening.
Not so much.
Back to Lending Tree:
That the debt level remained unchanged is noteworthy since it bucks decades-long historical trends. This report marks the first time since 2001 in which credit card debt didn’t fall in the first quarter.
In fact, the only times card debt didn’t fall in the first quarter of the year since the New York Fed report began were 2000 and 2001.
Every year since, card debt fell at least a little bit — until this year. That lack of a decrease may not bode well for Americans’ credit card debt numbers for the rest of the year.
I’ll add that this record-setting credit card debt is happening while credit card interest rates are hitting their own all-time highs.
From CNBC:
Since most credit cards have a variable rate, there’s a direct connection to the Fed’s benchmark. As the federal funds rate rose, the prime rate did, as well, and credit card rates followed suit.
The average credit card now charges a record 20.69%, nearly five percentage points higher than the beginning of last year…
You don’t need an MBA to know what happens when the largest credit balances of all time meet the highest credit card interest rates of all time.
But with inflation dropping substantially over the last year, isn’t that taking pressure off family budgets?
You would think so, but it’s not what the data show.
Here’s CNBC from last week:
By many measures, consumers who have been squeezed by higher prices should be experiencing some relief. Recent releases show that, at least compared with the soaring inflation of a year ago, prices have begun to ease…
And yet, as of June, 61% of adults still say they are living paycheck to paycheck, according to a new LendingClub report, unchanged from a year ago…
A majority, or 52%, of adults, including high earners, said they have felt more financially stressed since before the Covid pandemic began in 2020, according to a separate CNBC Your Money Financial Confidence Survey conducted in March — largely due to inflation, rising interest rates and a lack of savings.
That survey found that 58% of Americans are living paycheck to paycheck.
Now, in a moment, we’ll look at the potential outcome. But first, it’s helpful to understand the consumer mindset behind the spending. It sheds light on why purchasing remains so strong today despite the lack of organic disposable income to finance it.
And looked at another way, it reveals why the U.S. consumer is unlikely to steer the Titanic away from the iceberg.
A Covid-inspired mindset shift could be setting up the economy for a painful wake-up call
We all know the story…
The pandemic arrived… everyone was stuck at home, and with nowhere to go, savings went through the roof… on top of that, government stimulus checks further boosted household net worths…
But then came the reopening, and something called “revenge spending.”
A New York Times article in March explained the phenomenon:
At first, I spent little during the pandemic’s early days.
With bars and restaurants shuttered and no incentive to buy shoes or clothes, my primary indulgences had been nullified. I paid down my credit card balance and began saving in earnest for the first time in years.
My good habits dissolved in the fall of 2020.
The author goes on to describe her “new lust for purchasing” that took on a life of its own as “revenge spending” became her norm after her vaccination.
Here’s how she described her eventual spending breakdown in her monthly budget:
In the months after I was vaccinated, my [spending] percentages were closer to 50 percent spent on my needs, 100 percent set aside for my wants and 0 percent for savings and investing.
My credit card made up the difference.
This helps explain the explosive runup in credit card debt we’re seeing today.
To understand her shift in thinking about such careless spending (which represents a similar shift from millions of other Americans), the author contacted an expert.
Here’s the explanation:
Dr. Mittal pointed out that stimulus checks could have skewed how some consumers adapted to the constraints of the pandemic, not necessarily because the amounts were life-changing but because the checks arrived when many Americans were already reflecting on their finances and lifestyles.
“Death and mortality were just so salient that the immediate effects were to say: ‘You know what? I can die anytime. What’s the point of putting everything on the back burner?’” Dr. Mittal said…
…Others, like me, have given themselves over to financial nihilism.
“I’ll use the credit card, because you never know when the world might stop again,” said Tori Mohn, 29, who lives in Austin, Texas.
“I’m going to drink the nice wine, go to the nice restaurants, have the cocktails.”
Okay, Tori, but what happens if the world doesn’t “stop again”?
This concept of “financial nihilism” reminds me of a quote from author Ayn Rand:
“We can ignore reality, but we cannot ignore the consequences of ignoring reality.”
There’s a gargantuan bill on the way that someone must pay eventually.
We’ve all been paying this bill thanks to inflation for more than a year now. But let’s dig deeper…
On one hand, if U.S. consumers find the strength to curb their wanton spending and begin paying down their nosebleed credit card balances, the U.S. economy foots the bill.
Remember, consumer spending makes up about 70% of our GDP. Every dollar that goes to paying down the largest loan balances in history is a dollar that doesn’t trickle down to corporate America’s bottom line.
But if U.S. consumers continue this debt spending extravaganza (turning into sketchy borrowers), credit card and loan companies concerned that they’ll have to foot the bill will eventually slam the brakes on spending for these consumers.
We’re already starting to see this happen.
Here’s the latest from the New York Fed:
The overall rejection rate for credit applicants increased to 21.8 percent, the highest level since June 2018. The increase was broad-based across age groups and highest among those with credit scores below 680.
The rejection rate for auto loans increased to 14.2 percent from 9.1 percent in February, a new series high.
It increased for credit cards, credit card limit increase requests, mortgages, and mortgage refinance applications to 21.5 percent, 30.7 percent, 13.2 percent, and 20.8 percent, respectively…
The average reported probability that a loan application will be rejected increased sharply for all loan types.
Yet at the same time, an increasing number of economists and analysts are now proclaiming there won’t be a recession
In yesterday’s Digest, we highlighted such a call from Bank of America.
From that BoA analysis:
Growth in economic activity over the past three quarters has averaged 2.3%, the unemployment rate has remained near all-time lows, and wage and price pressures are moving in the right direction, albeit gradually.
This is all true, but we have a few questions…
How much of this 2.3% average economic growth is a function either 1) irregularly high pandemic savings of yesteryear that are now close to depleted, or 2) “revenge spending” that’s fueled with debt rather than disposable income?
Did BoA assess what happens when debt spending is no longer a viable option for millions of Americans, whether due to their own financial austerity decision or simply being cut off by lenders?
To what extent did the BoA analysis factor in how 61% of Americans are living paycheck-to-paycheck?
Did BoA happen to look back to past recessions to see the similarity of unemployment rates near all-time lows just before they spiked higher?
Sure, at first glance, the U.S. economic “car” appears to be headed in the right direction and cruising along at a good speed, but has anyone checked the fuel gauge recently?
By the way, a quick note about these shifting recession forecasts from economists/analysts
I’ll remind you of this stat from FiveThirtyEight that we featured in the Digest last month:
…Economic downturns usually come as a surprise.
A 2018 study conducted by Loungani and others looked at 153 recessions in 63 countries between 1992 and 2014 and found that the vast majority were missed by economists in both the public and private sector.
Part of the problem, according to Loungani, was that in the past, economists were unwilling to risk their reputations by predicting an imminent recession that never came to pass.
Might some economist be feeling the pressure today because their prior calls for a recession aren’t materializing fast enough?
Might “professional reputational risk” be a contributing factor to increasingly blue-sky economic forecasts even as the U.S. consumer slips further down an economic black hole?
Regardless of the answer, we’re still left with a U.S. consumer who is fast running out of money, yet for the moment, still “drinking the nice wine and going to the nice restaurants.”
Do we ignore this and instead focus on that 2.3% growth rate?
“We can ignore reality, but we cannot ignore the consequences of ignoring reality.”
Have a good evening,
Jeff Remsburg
