Kristina Hooper, CFP, CAIA, CIMA, ChFC, is US head of investment and client strategies for Allianz Global Investors. She has a B.A. from Wellesley College, a J.D. from Pace Law and an M.B.A. in finance from NYU, where she was a teaching fellow in macroeconomics.
US consumers are spending money—just a lot more carefully that they did before 2008.
The Federal Reserve’s consumer credit report for June showed a $13.8 billion rise in credit, which was below expectations. More importantly, we saw the continuation of a longstanding trend: less revolving credit and more non-revolving credit. Non-revolving credit rose $16.5 billion in the month, marking one of the largest gains during the recovery and one of the largest gains in the 70-year history of the series. This increase reflects growth in what I call “personal cap ex”—auto loans and student loans—because they’re ostensibly investments in the future. Theoretically, education appreciates in value and while a new car depreciates, it’s a durable good and many people view cars as a necessity. Given that the average age of a US car on the road today is 11 years, it makes sense that consumers are buying new vehicles.
Generally, Americans seem to be spending money on items they need and ones they think will appreciate in value. Some economists would argue that a reduction in revolving credit is a bad thing, in that consumers are not spending enough to keep the economy afloat. However, it does mean we have a consumer that is fundamentally sound and well positioned to spend when the employment situation improves and they feel more confident about the economy.
Non-revolving credit typically carries much lower interest rates than revolving credit. It’s one of the reasons—in addition to financial repression—debt servicing costs are lower. In fact, the most recent reading from the Fed on the debt-servicing ratio, the ratio of debt payments for servicing mortgages and consumer debt to disposable personal income—was 10.49%, close to a 30-year low. Meanwhile, the latest financial obligations ratio, a broader measure of debt payments for mortgages, consumer debt, automobile lease payments, rental payments, homeowners' insurance and property tax payments to disposable personal income, was 15.69%, which is close to a 33-year low.
But that’s not the only reason debt servicing costs are so low. It’s also because consumers have de-levered over the past few years. In fact, household debt as a percentage of GDP has fallen to 83.5% in the first quarter of 2013 from 100% in the first quarter of 2009.
There are other signs that consumers have gotten their balance sheets in order. For example, household net worth rose to $70.3 trillion in the first quarter, a record high, up almost $20 trillion from its lowest point during the recession. And household liquid assets—financial assets excluding pension and insurance reserves—rose by $10 trillion in the past four years, meaning that consumers have built a nice cushion to withstand future shocks. We also heard from the American Bankers Association, which reported that bank-card delinquencies dropped to 2.41% of accounts in the first quarter, a 22-year low.
So why aren’t consumers spending more now? It’s clear that the global financial crisis of 2008-2009 has had a significant and lasting impact on consumers, causing them to err on the side of caution. But we have historically seen a decidedly negative correlation between unemployment and consumer sentiment. It seems that as the employment situation improves, sentiment will likely advance and spending should follow. It already appears to be happening, given that consumer purchase plans for appliances, cars and homes have dramatically improved and are much higher than normal. This trend is critical because when the Fed does begin to taper, economic growth will need to power the stock market. And with consumer spending making up more than two-thirds of GDP, the consumer could be the key to further recovery in the economy. Think of the consumer as a coiled spring that’s ready to expand.
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