Consumer Credit in a Modern Age. (the Economy)
Silvia, John E., ABA Banking Journal
CONVENTIONAL WISDOM states that the essence and effect of consumer finance is still captured by statistics such as consumer installment debt. This indicator is a factor in only one side of the consumer balance sheet (liabilities), and even then it is only a small factor. The use of consumer credit has changed over time, complicating the consumer finance picture. Consumers now use credit as a substitute for cash and, in some cases, as a convenient way to accumulate miles.
The asset side of the consumer balance sheet has also increased in complexity. It has exploded with investment options--stocks, bonds, and 401(k)s--as opposed to the checking and savings accounts of the past. The value of these assets fluctuates, sometimes sharply, with changes in expected interest rates and economic growth.
When considering how the consumer finance/consumer credit landscape has changed in the past decade, it is interesting to ask, what are the driving fundamentals of consumer credit? What is the influence of the consumer balance sheet on assessing credit risk? And, finally, what trends must we monitor to evaluate the likely forward movement of consumer credit?
Historically, consumer credit lags, rather than leads, the business cycle. Economic growth leads to greater consumer use of credit as well as willingness, on the part of lenders, to extend credit. Growth drives credit, not the other way around. Rising credit usage does not signal economic problems ahead. Rather, it is economic weakness that signals future credit problems.
If we only focus on the increase in the ratio of household mortgage debt and consumer credit to income, we might conclude the household's leverage is increasing. However, this ratio compares outstanding debt (a stock concept) to income (a flow concept). …