The Current Drop in Consumer Borrowing is Both Voluntary and Forced

Posted by Michael A. Kamperman on June 7, 2009

In April, consumers paid back $15.7 billion more in consumer debt than they borrowed, including credit cards and auto loans.  This comes on the heels of paying back $16.6 billion in March.  The savings rate has rapidly risen in the last few months and reached 5.7% in April.  It makes perfect sense for individual families to reduce spending and pay off debt in these uncertain economic times.  No doubt many prudent families are willingly doing this.  The problem, of course, is that if everyone does the rational thing by cutting spending and adding to savings, then in the near term the economy will only worsen.  Unemployment will continue to rise and deflationary pressures will continue to grow.  Ironically, the sacrificing family is contributing to a pattern of behavior that could cost one or more of the family’s breadwinners their jobs.  What can be good on a micro level can be disastrous on a macro level.  The increase in the savings rate is occurring so rapidly that policymakers cannot adjust quickly enough.  Not much can be done in the near term to lure some of these new savers back to their spending ways.

However, not all families are voluntarily adding to their savings.  Some families have lost access to credit and are being forced by the credit markets to save.  It is very difficult to qualify for a new car loan with so-so credit.  With bad credit, forget about it.  The consumer borrowing data, when combined with the retail data, paints a picture of banks cutting back on consumer credit card lines as well.  In a perfect world those voluntarily saving would start spending, picking up the slack for those families that need to save.  But the world is not perfect and we do not live in a vacuum.  Policy makers could increase consumer spending if they could find a way to open up the credit markets.  While I believe those with credit cards need to stand on their own or do without, the same cannot be said for auto loans.  In aggregate, our country would be better off bearing the cost repossessing a few more cars than we are now by bearing the cost of hundreds of thousands of lost jobs in the auto sector with many more losses on the way.

Since we know a large portion of the drop in consumer borrowing is forced, we can be certain that the savings rate will continue to rise and that consumer borrowing will continue to fall.  The reason for this is that our policy makers in Washington have come up with nothing so far to restore consumer credit.  The consumer represents 70% of the U.S. economy and will remain weak.  Businesses will not pick of the slack for the consumer with capital expenditures.  Everything is already overbuilt and revenues continue to fall.  This leaves only government spending as a possible source of propping up the economy.  Our catch-22 seems to be either accepting more subprime lending, accepting a much bigger government, or accepting a continuing deflationary depression.