Submitted by Micro Hive; authored by Dominique Dwor-Frecaut is a macro strategist based in Southern California. She has worked on EM and DMs at hedge funds, on the sell side, the NY Fed , the IMF and the World Bank. She publishes the blog Macro Sis that discusses the drivers of macro returns.
US credit scoring is facing a revamp. Fair Isaac (FICO) recently announced changes to consumer credit scoring that will raise the credit core of highly-rated borrowers and lower that of lower-rated consumers. While lenders have a choice of ratings methodologies and could take time to adopt the new FICO scoring, Fed surveys show a gradual, but steady, tightening of consumer loans standards is already underway. With household balance sheets starting to show signs of strain, this trend could have a negative and significant impact on consumption, the main, and already-slowing, engine of US growth.
Healthy consumer balance sheets are often cited as one of the strengths of the US economy. Average household leverage ratios look good: relative to the crisis peak, debt is down by more than 20 percentage points of GDP and continues to slide lower (chart 1). The debt service ratio is lower than before the crisis and default rates are back to their pre-crisis levels. The one–well known– exception to this positive picture, is auto loans, about 9% of total household debt, where delinquencies are nearly back to their crisis peak.
Yet, a detailed look at consumer finances shows cracks starting to appear. While average mortgage delinquencies are still falling, credit card delinquencies have been rising since 2016 (chart 2).
At small banks, accounting for about 20% of consumer lending, credit card delinquencies are now well above their crisis peak. In addition, Discover, the US largest independent credit card network, has seen a 10% decline in its stock price caused by investor concerns over its classification of compromised loans. The performance of Fintechs, small but fast growing, could also come under pressure. Fintechs offer mainly unsecured personal loans, the fastest growing segment of the consumer credit market, that are used largely to repay or consolidate other debts, especially credit card debt. Lastly, personal bankruptcy filings increased in 2019 for the first time since 2010. These weaknesses are puzzling in view of the decline in unemployment to a 50-year low.
Raghuram Rajan, Chicago professor and former Governor of the Reserve Bank of India, who famously predicted the crisis, asserts that widening income inequalities were a major driver of the unsustainable leveraging of low-income US households before the crisis. Since then, income inequalities have increased, with most of the income and wealth gains accruing to higher-income households (table 1).
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Realist - Everybody in America is soft, and hates conflict. The cure for this, both in politics and social life, is the same -- hardihood. Give them raw truth.
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