According to the Federal Reserve, Americans’ total credit card balance as of the end of September is approximately $925 billion – just shy of the record set in 2019.
It is challenging to boost your financial discipline when you are swarming with debt, from car loans and mortgages to credit card debt. It doesn't help that the Fed continues to raise interest rates aggressively in an attempt to quell inflation, sending US consumer debt surging.
Households, the most interest-rate-sensitive sector, will need to address these risky external forces with financial discipline, tightening their budget and reigning in spending. With rising interest rates, they should postpone large purchases like homes and cars, prioritizing saving and paying off debt.
It's not all bad news. November's unemployment rate remained steady at 3.7%. However, some cracks are evident. Rising layoffs, and significant company hiring freezes could negatively impact unemployment. The inverse relationship between inflation and unemployment may see higher rates of unemployment as inflation declines, like a seesaw going up and down.
A softer economy and higher unemployment could cause a recession. With these risks, including rising consumer debt, households should insulate themselves from risks by increasing financial discipline.
Low Personal Saving Rates
The US personal savings rate was 3.1% in September 2022, well below the record high rates during the pandemic or even the 8.3% at the end of 2019. Except for the low savings rates in 2005, which dipped to 2.1% in July 2005, Americans primarily depleted their savings to the lowest levels in 2022, just as loan rates continued to rise.
The Fed, led by Board of Governors Chairman Jerome H. Powell is trying to avoid the challenging economy of 1980-1981, when high inflation of 14.5% peaked in mid-1980. That was followed by a severe recession with unemployment soaring to 11% a year later. However, the personal savings rates then were around 11% providing a saving grace for US consumers.
Surging Consumer Debt Trends
The Federal Reserve Bank of New York Third Quarter 2022 Household Debt And Credit report shows alarming trends:
- Total household debt balances soared in the third quarter of 2022 to $16.51 trillion, the highest sequential rise since 2007.
- Mortgages and credit card debt were the most significant contributors.
- Credit card balances grew 15 percent year-to-year, the largest in over 20 years.
- Originations slowed in mortgages due to higher loan rates, and the housing sector may lead us into a recession.
Delinquencies Rising for Most Debt
Delinquencies of 90 days or more rose to 0.94% from 0.70% in the third quarter of 2021. The higher delinquencies are not yet at pre-pandemic levels of 2.27% in 2019.
However, alarms are going off as credit card debt rates jumped to 3.69% and are at the highest rate of all household debt. Delinquencies for mortgages and student loan debt were below historical rates as mandatory payment pauses were in place during the pandemic, with mortgage payments resumed in the second half of 2022.
Debt delinquencies may rise as the Fed continues to hike interest rates at a potentially slower pace. Many expect a recession sometime in 2023, though based on slower demand for new homes and reduced construction, the housing sector may already reflect a recession.
Mortgage Debt
By far, mortgage balances are the most significant component, at 71% of total household debt, and increased by one trillion to $11.67 trillion, according to the latest data.
Reduced Mortgage Loan Originations
Mortgage loan originations, including refinancing, were at $633 billion, or a $126 billion decline, reflecting a return to pre-pandemic levels. It is not surprising to see reduced originations with the current 30-year fixed mortgage rate at 7%, up from its record low of 2.5% in January 2021.
Mortgage Delinquencies Up
Mortgage debt delinquencies rose in the third quarter 2022 to 0.50%, up from 0.27% in the previous year. Removing the mortgage moratorium at the end of 2022, which paused loan payments, may lead to higher delinquencies than the 0.99% experienced in 2019.
The mortgage loan moratorium paused payments during the pandemic, so lenders couldn't foreclose on homeowners if they occupied the property. With the suspension lifted, mortgage delinquencies and foreclosures may rise.
Credit Card Debt Grew Faster
Credit card balances hit $925 billion in 2022. On a year-over-year basis, this marked a 15 percent increase, the largest in over 20 years. Credit card balances are nearing their pre-pandemic levels after sharp declines in the first year of the pandemic.
Credit Card Delinquencies
Credit card delinquencies are up to 3.69% compared to 3.24% during the same time last year. These rates remain below the pre-pandemic rate of 5.19% in 2019. However, the credit card category is the most problematic, with solid consumption despite high inflation and rising interest rates on growing credit card balances.
According to the Federal Reserve, the most recent average credit card interest rate was 18.43%. Having large balances makes it challenging to get rid of this costly debt. Try cutting your borrowing costs with the avalanche method, which targets the high cost of debt first.
Auto Debt Rose
Auto loan debt was at $1.52 trillion, up $22 billion and continuing its rise since 2011. The surge reflects strong consumer demand for cars despite inflationary pressures. New auto loan originations fell slightly in 2022 but were still higher than average volumes in 2018-2019.
Auto Loan Delinquencies
Auto loan delinquencies follow a similar trajectory of most debt types, rising to 2.02% from 1.57% in 2021, but below the more significant 2.34% pre-pandemic. According to Kelley Blue Book, auto demand remains strong for at least a year, pushing car prices higher, averaging $48,300. The 60-month loan rate for new cars is at 5.50%.
Student Loan Debt
The outstanding student loan balances of $1.57 trillion are at the lowest levels since 2021. This decline is due to the extended forbearance and efforts by the Biden Administration to forgive some of the education loan debts, with future forgiveness plans likely to be decided by the US Supreme Court.
Student Loan Delinquencies
Student loan delinquencies remain stable, with 1.04% and well below the 9.26% registered in 2019. The federal government extended the repayment pause to June 30, 2023, or upon the court's resolution for forgiveness plans. The pause was initially put in place on March 27, 2020.
Current delinquency rates will likely rise with higher borrowing rates from the federal government and private loans.
Consumer Sentiment Is Declining
High inflation, rising borrowing costs, and reduced asset values are taking a toll on households, especially those who rely on credit cards to pay their bills. The University of Michigan Survey of Consumers registered a 56.8 reading for November's Consumer Sentiment Index, down from 67.4 in November 2021. The reduced consumer sentiment indicates a shift from consumer strength owing to economic challenges driving up higher prices and swelling debt.
Achieve Financial Discipline
Some households may find themselves in more precarious financial situations requiring more discipline. They should delay making unnecessary purchases on their credit cards with astronomical interest rates. Instead, households should prioritize savings and reduce debt. They can:
- Set reasonable financial goals.
- Use more cash to pay for your purchases.
- Replenish emergency savings to boost liquidity.
- Postpone plans to borrow for a home or car as interest rates rise.
- Reduce spending and avoid impulse purchases.
- Target paying credit card balances in full each month.
Consumers face harsh economic conditions that will not change overnight. They can take proactive steps to achieve financial discipline by cutting spending, saving more, and paying off debt to better weather the risks of high inflation and rising interest rates.
This article was produced by The Cents of Money and syndicated by Wealth of Geeks.
source https://wealthofgeeks.com/consumer-debt/
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