As incomes stagnate and prices rise, a growing number of Americans face a tough choice: either descend a couple of rungs on the lifestyle ladder or borrow to keep it together. Many are apparently choosing door number two. From MarketWatch:
Nowhere has the unequal nature of the post-banking-crisis recovery raised more concerns for the long-term sustainability of the U.S. economy than in the clear rise of non-discretionary consumer credit.
While the “haves” have fully returned to their pre-crisis behavior of paying for everything from higher education, cars and luxury homes with cash, and fully leveraging their investment portfolios, the rest of the consumer sector has changed dramatically over the past six years.
Upper-middle class “aspirational wealthy” families who were overexposed to the housing bubble continue to see debt of all kinds as a negative. Rather than using lower interest rates to purchase larger homes, if not vacation homes, they have instead opted to convert their 30-year mortgages to 10- and 15-year loans with essentially equal monthly payments terms. Lower interest rates have translated into faster loan amortization rather than economic growth. Well into the recovery, the focus of the upper-middle class remains on less, rather than more, credit, and — thanks to demographics — less, rather than more, home, too.
Further down the credit spectrum, the world of consumer debt has changed even more profoundly. For the “have-nots,” the continued absence of wage growth has resulted in an unprecedented boom of non-discretionary credit. Ordinary life in America now simply requires more debt rather than less to live. It is needs, not wants, that are behind the post-banking-crisis growth in consumer credit.
The clearest example of non-discretionary credit growth today is in higher education. With tuition costs rising far above wage inflation, and families no longer willing to take out home equity loans to fill the gap, lower- and middle-class students have no choice today but to borrow for college. A completed FAFSA (Free Application for Federal Student Aid) form is as much a prerequisite to college entry as four years of high school English and math. For those entering college, it is not a question of whether they will borrow, but rather how much.
But higher education is not the only place in our economy where non-discretionary credit is now the norm. The same condition today exists with car sales, too. With the average car on the road more than 11 years old, it’s no longer if Americans will replace their cars, but how.
Here, again, non-discretionary credit fills the void. With savings low, few Americans can afford much more than the down payment on a new car. Financing, whether in the form of a loan or a lease, is the only way low- and middle-class Americans can afford a new or used car.
But please appreciate how stretched non-discretionary car financing has now become. The following is per the Wall Street Journal:
“[The] average automotive loan term [reached] 66 months for the first time. According to Experian Automotive’s latest State of the Automotive Finance Market report, loan terms in the first quarter of 2014 reached the highest level since the company began publicly reporting the data in 2006. The analysis also shows that loans with terms extending out 73–84 months made up 24.9% of all new vehicle loans originated during the quarter, growing 27.6% since Q1 2013.
“The average amount financed for a new vehicle loan also reached an all-time high of $27,612 in Q1 2014, up $964 from the previous year. In addition, the average monthly payment for a new vehicle loan reached its highest point on record at $474 in Q1 2014, up from $459 in Q1 2013.”
With maturities of seven years or more, car loans might better be called car mortgages. But as the Wall Street Journal report makes clear, it isn’t just lengthened terms that have been required. The report also said that lenders have lowered credit scores while lessors have introduced lower mileage caps. Just as we saw in housing at the top, lenders are doing whatever they can to lower the monthly payments to consumers.
“Non-discretionary consumer credit” is one of those benign-sounding terms that hide a much darker reality. A few years of this and you either find a much, much better-paying job or you crash and burn.
Student loans, meanwhile, have gotten a lot of press lately, but seen through the “non-discretionary” lens they become even more conceptually disturbing. For a lot of families there really is no choice but to borrow if the kids are going to get degrees, which are still sold (by the higher ed establishment at least) as the ticket to the big bright world of symbol manipulation careers.
As for “car mortgages”… I had to get a calculator out to see what 84 months comes to in years, and it’s 7. So basically you’re paying on your car until it’s worth next to nothing. In the final year of the loan the total payments might actually approach the car’s resale value — which you can bet the salesman neglects to mention while you’re signing the contract. One has to wonder if the auto/banking nexus understands what 7-year loans will do to future demand for new cars. But of course most of the people writing these loans will be somewhere else in 7 years, so maybe they know and don’t care.
So let’s add it up: People putting gas and food on plastic, which will, in the not too distant future, force them to cut back on everything but food and gas; college students graduating with debt that prevents them from buying starter homes, new cars, expensive vacations (or advanced degrees); car buyers locking themselves into payments that won’t end until their 7th graders graduate from high school — at which time college tuition will make a long-term high-cost loan on the next car mandatory.
In each case the borrowers — and the lenders — are mortgaging their futures, quite literally. As these debts mount, rolling them over will get progressively harder and more expensive, and a growing number of people, car dealers, credit card companies and 4-year colleges will find that non-discretionary consumer credit is replaced by “non-discretionary deleveraging”, which is another way of saying bankruptcy.
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