A nightmare could be unfolding for US consumers in the form of credit card debt, according to a little-noticed analysis by McKinsey & Co, the international consulting firm, which postulates a scenario in which they are largely incapable to pay off their cards, “sparking an extended period of elevated losses that could total in excess of U$$130 billion over the next two years.”
If that sounds concerning, outstanding consumer credit as of February reached US$4.225 trillion with average credit-card debt of US households currently standing at around $8,400. Auto loans totaled 44 percent of outstanding consumer credit, and student loans 25 percent. Even before the onset of the Covid-19 crisis, US consumers were hurting despite the longest economic boom in US history, which came to an abrupt end in February with the onset of measures attempting to ameliorate the pandemic.
There is little indication that American consumers, used to living well beyond their means for decades via credit cards, have anything like the resources to cope with the situation that is coming at them. That is not going to be good news for the merchants at the Canton Toy Fair, the world’s largest, for instance. Those figures have worrisome implications for Asian countries that have built their economies on exports to the west.
With the world now seeking to shake loose – possibly with little success –from Covid-19, it will be problematic for US consumers to lead the global economy out of recession as they have in the past. The World Trade Organization is predicting a decline in global trade between 13 percent and 32 percent, likely exceeding the trade slump brought on by the global financial crisis of 2008 and 2009 with estimates of 2021 performance equally uncertain. With the trade war intensifying between China and the United States, the situation looks to worsen.
In 2018, 28 percent of consumers – more than one in four – according to the Consumer Credit Panel, were visited by a third-party collection agency. That was up from 14 percent in 2015 according to the Federal Reserve Bank of New York. Even before the crisis and the downturn, more than three of four collections were for non-financial debt, with more than half (58 percent) for medical debt and another 20 percent for telecommunications or utilities debt, according to McKinsey.
“At that time, US$444 billion in delinquent debt out of the total US$669 billion in delinquent debt was classified as “seriously delinquent,” defined as 90 or more days late or “severely derogatory,” which can include debts that were previously charged off but on which lenders continue to attempt to collect, the New York Fed said.
The debt collection industry makes more than one billion consumer contacts annually and more than 30 million debts are in collections annually according to ACA International.
Despite the US Congress–approved US$2 trillion stimulus package, which included $350 billion in funding to help small businesses stay afloat over the next few months, the average US consumer will receive more modest assistance according to the McKinsey report. Households in which adults earn less than US$100,000 per year are receiving, on average, around US$3,000 to combat the effects of rising unemployment and economic hardship.
“The decline in consumers’ ability to pay off their credit card debt will coincide with an emerging shift in lenders’ attitudes and practices,” the report says. “Whether directed by federal or state authorities or under prudent self-governance, lenders are rapidly scaling back outbound collection-calling activities, especially in the areas worst affected by the spread of COVID-19, such as New York. Furthermore, those lenders without a robust work-from-home infrastructure and a digital omnichannel strategy will find it increasingly difficult to contact customers through traditional channels.
All signs point to a wave of losses crashing over the US retail-lending landscape over the next nine to 36 months. In the short term (three to six months), according to loss forecasts by McKinsey, the current stock of medium- and late-stage delinquent accounts is likely to charge off almost in its entirety, leading to losses of US$15 billion to US$25 billion.
Longer-term, the impact of an up to 20 percent unemployment rate will render those customers already struggling to manage their revolving debt largely incapable to do so and will spark an extended period of elevated losses.