Will consumer borrowing continue as rates climb?


January 15, 1995|By Timothy J. Mullaney

Consumers are on a borrowing spree, according to the Federal Reserve, which reports that consumer borrowing rose 17.3 percent in November, the 24th straight month such lending has risen. Car loans and credit cards are the leading contributors to the gains.

Why are consumers borrowing so much more money? And will it be good or bad for the economy in the medium and long term?

Irwin L. Kellner

Senior economic adviser, Chemical Bank

This was part of a trend that has been on the way since the beginning of 1994, actually since the beginning of 1993. In 1994 alone, retail sales through November went up 8 percent, but use of consumer credit during the same time went up 13 percent. With prices going up at a very moderate clip, it says people are having to borrow more money to finance a given volume of purchases.

I think it's a bad sign. People don't have enough buying power from wages and salaries to finance desired purchases. It also is a sign that their savings have been drawn down as low as they can be, that they can no longer tap the equity of their homes for borrowing power, so they have turned to the last resort, which is plastic.

With interest rates up and many credit card rates up, those who carry balances are going to be paying more. That of course will cut into how much they can borrow down the road and how much they have left from their paycheck. It suggests a slowdown in consumer spending in the months [ahead].

The savings pool is lower, household net worth declined [in 1994] for the second year in a row, reflecting the drop in the stock market. The bond market had its worst year since 1927 and housing prices fell in many parts of the country. The consumer is running on fumes and in the not too distant future you will see the results of that.

David L. Donabedian

Economist and Vice President, Mercantile Bankshares Corp.

How it happened was a combination of a better job market, and better consumer confidence. People simply felt, or feel, more comfortable using credit because they have a higher degree of confidence that they will be able to pay it back. The unemployment rate is 5.4 percent, and that and consumer confidence tells you people are feeling more confidence in general and that's what drives consumer credit.

The other thing I would say is that generally the level of interest rates is an overrated factor in determining whether people use consumer credit. The auto market is a good example. People are all the time worrying about interest rates affecting people's decisions. But if you do the math, a 1 percent increase in the interest rate on a $15,000 car is a lot less than on a $200,000 house. The dollar amounts are not necessarily that significant.

The other thing that seems counterintuitive on the surface is that rising use of credit is not necessarily a sign of weakness on the part of the consumer, that they're overextending or don't have the money in the bank. Sometimes credit expands quickest when income expands quickest, because people don't worry about it. That's where we are now.

If this rate of credit usage continues, we'll be back in the soup like we were in the late 1980s with consumers overextended, because the economy can't grow 4 to 4.5 percent a year forever.

Thomas F. Carpenter

Chief Economist, Managing Director, ASB Capital Management Inc.

In November and December, consumer confidence rebounded in lTC a very strong way. Typically in a good month the indexes may go up one index point, but in November and December they went up 10 index points [each month]. The strong advances we have seen in consumer credit are linked with much improved consumer psychology. My guess is a lot of the momentum we had gets carried forward into 1995.

We had a wave of employment momentum in 1994 -- we created 3.48 million jobs, over 900,000 of which were created in the fourth quarter alone. Typically when people are newly employed the first thing they do is buy things -- a car, furniture, other household items. So as we move into 1995, we've got this strong support coming from the employment momentum created in 1994, and it will take a while to dissipate.

Having said that, a lot of the jumps we have seen over the past year in consumer credit has to do with the fact that credit cards in particular are being used for convenience more than as financing vehicles.

That has tended to overstate the surge in credit use. [The unconventional charge debt] is paid off. One of the biggest surges in particular is the revolving credit segment, which is credit cards. It has been really soaring. It's due to the convenience factor being pushed more and more by the companies. It's as if Visa and MasterCard are becoming what American Express always was -- where you charged it and paid it off every month.

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