Consumer Credit Down - But Does It Show Deleveraging?

I have just taken a look at the consumer credit figures for September, released just Friday by the Federal Reserve. The data do show some modest deleveraging, especially when looking at the recent increase in nominal GDP. However, it is still not clear to me that the scale of deleveraging is great enough to induce a recessionary relapse.

My baseline for deleveraging is Debt to Nominal GDP – when debt to GDP goes down, that shows deleveraging. For example, for the latest data released in September for Q2 2009, Private sector total debt to GDP (including financial services) in the U.S. was 292.2% of GDP. Because of the huge drop in nominal GDP, this was actually up from 283.0% when the recession began in Q4 2007. For households, the number was 96.8% in Q2 2009, up slightly from 95.9% at the end of Q4 2007. What this shows is that deleveraging has yet to begin in earnest as debt levels have remained relatively high even while GDP had collapsed.

The lack of deleveraging is probably a result of financial stress. In the Great Depression, the personal savings rate dropped from 4.5% in 1929 to 4.1, 3.9, –0.9, and finally -1.5% in 1930-1933. People had to use savings to service debt as the deflationary spiral took hold.

So, in the absence of quarterly data on debt levels, I look at data from things like consumer credit for a proxy. On a seasonally-adjusted basis, consumer credit declined to $2.471 to $2.456 trillion. That is the lowest since June 2007 and marks the ninth consecutive monthly drop.

However, looking at the non-seasonal data makes plain what is happening:

Nonrevolving credit is now increasing along with GDP. Look at the area highlighted in red; that coincides with the 3.5% real GDP print we just saw. On the other hand, revolving credit is getting crushed. Below is the reason why (click to expand):

Credit from commercial banks and savings institutions have dropped off a cliff. When you hear people saying that banks aren’t lending, this is what they are talking about. In Q3, banks are lending again (think cash for clunkers) because nonrevolving debt is up. That’s also why GDP is up. But, nonrevolving credit lines (credit card lines) are being cut.

My conclusion is largely the same as last month, namely I had anticipated more deleveraging than we are seeing. However, consumer credit is only coming down on the nonrevolving side. And given the stabilization in house prices and increases in refinancing activity, I wouldn’t expect mortgage debt levels to be down substantially. When we see Household Debt to GDP levels from Q3, they probably will not be substantially lower than they were in Q2.

This does support recovery but only at the risk of continued high levels of debt to GDP.

G.19 data series – Federal Reserve

Comments

[Michael Clark:]

It took 20 years to wind down high debt to GDP in the 1930's. It will be the same today. Of course, there won't be much winding down until we all face the fact that winding down debt is what we need to do. Our current lords of finance (Bernanke, Geithner, Obama) do not even recognize this need, since 0% interest rates shouts out clearly that taking on more debt is the way we are trying to go.

Nov 08 03:30 AM

[Gary A:]

We have tax receipts tanking, defaults on credit cards rising, big unemployment, little demand for gasoline, yet spending and credit remain flat?

Someone is lying. Someone is fixing numbers. All the above cannot be true.

Nov 08 03:37 AM

[jimboy:]

It seems to be accepted wisdom that the consumer is turning thrifty and we are in for a long period of belt-tightening. I never really bought this argument for 3 reasons:

- profligacy is too ingrained in the psyche and culture
- a big chunk of the country can't afford to save
- the Fed and the government won't let a savings culture take hold and will continue to set policy (zero rates, clunkers, housing credit) that encourages debt accumulation

Nov 08 03:52 AM

[Dialectical...:]

I agree with most of what you're saying, and I suspected consumers would spend as much as they could out of habit/culture as well. However, when you say "can't afford to save" that might be true, but anyone can afford to belt tighten. Cutting expenses is not the same as saving and I think we are seeing many folks reduce or delay purchases. Also, some people are at the end of their ability to accumulate debt. Whereas 7 years ago there would always be another credit card offer in the mail to help consumers extend their indebtedness, now many families are seeing their limits cut and their interest rates increased.

So my point is while I agree with you that the "new age of savings" has certainly not dawned on us, we are certainly seeing, and will continue to see, decreased consumer spending that will impact on how quickly our economic cauldron gets back to full boil.

You are very right that the Fed is being dragged kicking and screaming into this slowdown. If they could set negative interest rates they would..


On Nov 08 03:52 AM jimboy wrote:

> It seems to be accepted wisdom that the consumer is turning thrifty
> and we are in for a long period of belt-tightening. I never really
> bought this argument for 3 reasons:
>
> - profligacy is too ingrained in the psyche and culture
> - a big chunk of the country can't afford to save
> - the Fed and the government won't let a savings culture take hold
> and will continue to set policy (zero rates, clunkers, housing credit)
> that encourages debt accumulation

Nov 08 02:29 PM

[John Lounsbury:]

How do credit defaults affect outstanding credit? It seems to me that they should reduce it. If that is the case, then no change in Household debt levels means that defaults are being offset by others adding more debt.

We are, therefore, deleveraging very selectively, through credit defaults. It is tough to get ahead when the "savings rate" is substantially composed of credit defaults.

Nov 08 04:57 PM

[optionsgirl:]

Is the savings rate comprised of people who stopped paying their mortgages, cars and credit cards and so now are "paying themselves?"

Nov 08 07:12 PM

[ryanclarke:]

Someone commented, "You are very right that the Fed is being dragged kicking and screaming into this slowdown. If they could set negative interest rates they would.."

My answer is interest rates are already negative in terms of inflation. $100 dollars in the checking account at the local bank bought much more gasoline in February 2009 as compared to November 2009.

Someone commented, "We have tax receipts tanking, defaults on credit cards rising, big unemployment, little demand for gasoline, yet spending and credit remain flat?"

I disagree with the 'little demand for gasoline' part. From peak gasoline demand in 2007 U.S. demand is currently down about 5% - to 9 Million barrels of gasoline consumed per day. The data is at eia.doe.gov www.eia.doe.gov/oil_ga...

As to Ed Harrison's credit commentary - the blip in credit is due to "clash to clunkers" and my own gut feeling is the people who turned in the clunker to buy the new Ford Focus will soon default in mass on the car loans. I also believe even if consumer credit levels stay the same for a few months the economy will still contract, that is, only with increasing consumer credit can this economy as currently structured expand.

Nov 08 09:42 PM