Consumer Finance: Watch the Ripple Effects
Reaser, Alison Lynn, ABA Banking Journal
The U.S. expansion, now five and a half years old, is beginning to look a little long in the tooth. Still, fears of recession have subsided. Banks and their business customers are too busy trying to find workers to fill key positions. Indeed, anxiety over wage and price pressures and their impact on interest rates and interest rate risk have moved to the top of banks' radar screens. Credit people seem to still be tilting at windmills in regard to quality.
Except credit cards. The steep rise in delinquency rates and losses has captured everyone's attention. How big is the consumer debt iceberg and, when it melts, how many parts of a bank's portfolios will be flooded?
Consumers' threat to banks is commonly viewed in terms of the impact on direct and indirect consumer loans and mortgage credits. Serious problems in the consumer sector, however, could jeopardize credits on the business side, including loans to less-well-capitalized enterprises.
Consumers' financial situation is somewhat precarious. Debt servicing costs as a percentage of disposable personal income are now back to their 1990-91 recession level (2.6%), although still below the 1986 peak (2.8%).
Boosted by the change in bankruptcy law in 1995, personal bankruptcies have escalated to a record annualized rate of over one million in the first half of 1996. This represents about 109 bankruptcy filings per 10,000 households, double the rate of a decade ago.
Consumer problems for banks could develop through three scenarios. First, a major correction in the stock market could erode the wealth and confidence built up for higher-income households during the past two years. Loans to some bank borrower groups--including brokerage and securities firms, tourist businesses, upscale retailers, and expensive restaurants-- would be at greater risk.
The second consumer risk scenario would be the fallout of the rise in consumer debt burdens and the extension of credit to less creditworthy individuals. Households might curb borrowing and spending or face a reduced flow of credit from banks as well as finance companies. Ripple effects would spread to various business loans including retail discount chains of appliances and electronics, auto dealers, restaurant chains, apparel retailers, and entertainment firms. …