Credit data in the U.S. continues to indicate increasing fragility for the economy. Specifically in households.

Now, I’ve long argued that the credit cycle – aka the loan supply-demand balance – is decelerating.

Simply put, banks are lending less. And consumers are borrowing less.

And this has widespread implications for economic growth. Because less credit extended means less demand somewhere else.

But the two big questions remain:

1. Is it because household incomes are rising fast enough to justify consumption and debt repayment?

2. Or is it because households are already dealing with excess leverage and declining savings, thus forced to curtail new borrowing?

I believe it’s the latter, and some of the data also indicates this.

For instance, loan delinquencies have spiked. Household interest costs relative to incomes have soared. And consumer credit growth is fading.

And in a credit-based system, this is troubling.

So, let’s take a closer look at all this. . .

Loan Delinquencies Across Major Categories Continue To Rise As Excess Savings Disappear

Loan delinquencies – meaning missed or late payments – have surged far above pre-pandemic levels.

For instance – according to data from Moody’s Analytics and Equifax – consumer loans, credit cards, and auto loans have all seen a sharp rise in delinquencies.

In fact, the delinquency rates on all three just hit decade highs.

Making matters worse, recent Wells Fargo data highlighted a surge in credit card delinquencies for banks – especially those not in the top 100 by asset size.

In Q2-2023, banks not in the top 100 reached an all-time high delinquency rate of 7.51% on credit cards. Surpassing the previous record of 7.17% in Q1-2020 as the COVID-19 pandemic proliferated.

Keep in mind there are over 4500 banks in the U.S. – so excluding the top 100 largest banks shows stress in the medium-smaller banks. Which have already faced heavy pressure year-to-date from deposit flight, declining asset values, and an imploding commercial real estate sector.

Because of this, strategists at Wells Fargo noted, “The economy still has a cash cushion, but many consumers are exhausting their credit, while income growth has slowed sharply.”

Now, assuming Wells Fargo’s talking about the pandemic-era excess savings as the ‘cash cushion’, this appears near exhausted. . .

For instance, last month the San Francisco Federal Reserve Bank updated its accumulated excess savings estimate. And according to their research, it’s nearly 95% depleted.

Or said another way – as of June 2023 – over $1.9 trillion has been drawn down out of the $2.1 trillion of excess savings since 2020. Thus Implying that there’s less than $190 billion of excess savings remaining in the economy.

The excess savings that many households leaned on over the last three years won’t cushion them for much longer.

And once it’s exhausted, not only will households need to cut back on excess spending. But they’ll need to start rebuilding their savings.

Remember, consumers can only do one-of-two things with the same dollar: spend (dissave) or save.

They can’t do both.

Now, there’s a bit of uncertainty about the rate of excess savings. And the distribution of who holds it (for example, the top 10% of households versus the bottom 90%).

Some data shows it’s still elevated broadly. While others show it’s already completely gone.

But Thomas Simons – a Jefferies’ U.S. Economist – noted in Bloomberg that, “There’s increasingly an issue where the lower end of the income and wealth spectrum is really struggling with the accumulated inflation of the last couple years. While wealthier Americans are still cushioned by savings and asset appreciation.”

Remember what Marriner Eccles – Franklin D. Roosevelt’s Fed Chairman – emphasized about inequality after the 1929 crash.

“The United States economy is like a poker game where the chips have become concentrated in fewer and fewer hands. And where the other fellows can stay in the game only by borrowing. When their credit runs out the game will stop…”

So, why does this matter currently?

Because the U.S. consumer is already feeling the bite of tighter credit standards.

According to the recent New York Federal Reserve survey, the share of households saying it’s increasingly harder to access credit hit 59% – a decade high.

And since the bottom 90% depends heavily on credit to consume, this makes Eccles’ words all the more dire today.

And this is why the surge in debt delinquencies is troubling – especially at a time when U.S. employment is robust.

Because it means one of two things:

1. That most households continue missing payments even as they have excess savings (creating longer-term credit problems).

2. Or that they’ve bled through it already and are struggling to borrow further.

I believe it’s more likely the latter. . .

Consumer Credit Growth Has Been Declining Steadily – Meanwhile, Interest Costs Have Soared

Over the past year, U.S. consumer credit growth has reverted sharply to its post-2000 average trend.

And it appears that it’ll continue sinking lower due to higher costs of debt and eroding loan demand.

Now, while less debt is generally a ‘good’ thing at a micro level, it’s historically ‘bad’ at the macro level.

That’s because of the fallacy of composition.

For instance, if a household decides to stop piling on debt and instead focus on paying it down, that’s a good situation.

But if everyone begins doing that, it leads to mass deleveraging. And thus debt-deflation spreads.

Think about the U.S. post-1929, Japan in 1991, the global economy in 2008, Europe in 2011, and China currently.

One thing they all had in common was that debt capacity soared, and the inevitable deleveraging by the masses sank asset prices and growth. Which then fed on itself.

Thus it’s important to monitor credit flows – because new credit creates demand (the ability to buy now and pay later). And less credit means less demand – at least at the margin.

Making matters more concerning is that household interest payments (excluding mortgages) as a share of wage income have shot up to decade highs.

As the late economist Hyman Minsky masterfully explained – private debt cannot rise forever.

Eventually, debt costs will exceed income growth. And the private sector will need to rebalance itself (divest assets, pay down debt, restructure, etc.). Which all leads to declining prices and slower growth, further amplifying the downturn (creating a feedback loop).

This is what’s known as the ‘Minsky Moment’.

It’s important to note that this isn’t just a U.S. issue.

The entire global economy’s seen debt levels soar over the last decade. And it’s expected to keep climbing.

For perspective, a January paper by S&P Global Ratings Agency highlighted that – as of June 2022 – overall global debt is $300 trillion (349% of the global economy). And will rise much further.

So, what does this mean?

Well, it indicates that debt is growing faster than growth. Hence the ratio is increasing.

Now, who knows when things will reach a tipping point.

But slowing growth in China, an anemic Euro-area, U.S. private debt issues, and tighter monetary policies remain strong headwinds.

Or – putting it another way – the upside momentum appears limited going forward (all else equal).

In Conclusion

The U.S. consumer over the last two years has essentially carried the global economy.

Anemic domestic demand worldwide found its outlet through exporting to the thrifty U.S. buyer.

But U.S. consumption appears to be declining.

As of Q2-2023, U.S. real imports of goods and services are -5% year-over-year.

And historically, sinking U.S. import growth precedes a recession as consumption declines.

Keep in mind it’s anyone’s guess if this will continue.

But rising U.S. debt delinquencies, declining excess savings, eroding loan demand, and higher debt servicing costs aren’t exactly strong indicators.

So, keep monitoring the credit flows. Because they truly do matter more than the pundits claim.

Just some food for thought.