Two Key Risks Facing Consumer Spending, the Engine of the U.S. Economy

Consumer spending has historically been a key driver of growth as it has typically made up over 70% of the economy.

Following the global financial crisis, U.S. consumers spent many years shoring up household finances. Today, their balance sheets appear healthy for now.

However, I see two key risks to consumer spending heading into year-end: rising credit card debt and delinquencies and the resumption of student loan repayments.

Consumer debt, however, appears manageable.

Despite headlines about high debt levels, U.S. household assets have also increased. Total and liquid assets as a share of liabilities are both at multi-decade highs.

Unlike the 2000s, when consumers had borrowed large amounts and funded much of their consumption through debt, today’s consumers do not need to deleverage.

Checking account balances also remain well above pre-pandemic levels, providing a helpful buffer.

Debt servicing costs continue to be low relative to history as well, even with the rising interest rates.

Mortgage debt represents a sizable proportion of total household debts, and many borrowers were able to lock in low mortgage rates in recent years.

This has insulated a large portion of debt from higher interest rates.

I expect private consumer spending to remain on a steady upward trajectory.

However, I see recent worsening in debt quality as a reason for some concern.

For instance, credit card and auto loan delinquencies have risen recently, particularly among younger borrowers.

While overall delinquencies are still below pre-pandemic levels, the acceleration could be a sign that consumers are starting to feel the stress from rising interest rates as well as a squeeze on disposable incomes from higher inflation.

The recent rise in consumer bankruptcy filings could also reflect stress.

At the same time, credit conditions for consumer loans have tightened significantly in the past year, meaning consumers are not able to fund large purchases with favorable loans.

Banks have tightened credit conditions across the board as a result of higher funding costs and increased capital needs following the regional banking crisis in March of 2023.

According to the Fed’s Senior Loan Officer Opinion Survey on Bank Lending Practices, the proportion of banks less willing to lend to consumers has risen to historical highs.

Another important headwind is the recent U.S. Supreme Court’s ruling that requires student loan debt payments for millions of borrowers to start in October.

This will likely provide a modest drag to spending at the end of this year and in early 2024.

I anticipate that student loan payments will have a larger impact on younger borrowers, who are already experiencing higher delinquencies on credit cards and auto loans.

Finally, the excess savings that consumers accumulated during the height of the pandemic has been dwindling.

There is some debate about exactly when the excess savings will be completely depleted, but most analyses indicate this buffer will have run out by the end of 2023.Without the savings buffer to smooth over the shocks of rising prices and interest rates or the resumption of student loan payments, the U.S. consumer could be under increased pressure.