The Debt Dilemma

Consumers are taking on more credit, so the good times must be back! Or not.

The Federal Reserve reported that in November consumer credit (excluding loans backed by real estate) increased by $14.1 billion, which is an annualized rate of 5.0%. It’s not enough to stop there.

The type of credit consumers are using is much more informative than the overall number. And when we look through the details, the story is not positive.

While the headline gain of $14.1 billion is correct, this includes a $15.1 billion jump in non-revolving credit, which means that revolving credit fell by $1 billion. And that’s where the trouble starts.

Revolving credit represents credit card debt. In 2009, Americans had $916.8 billion outstanding on credit cards. This amount fell and bottomed out at $817 billion in the first quarter of 2014.

Since that time, credit card debt has rebounded to $849 billion, and as of November it’s 3.4% higher than at the same point in 2014…

Interestingly, Federal Reserve reports on debt are not inflation-adjusted. If these figures reflected inflation, then the 11% drop in revolving credit from 2009 to 2014, and the fact that it is still 7% lower than in 2009, would be even deeper.

The fact that revolving credit continued to decline for years after the end of the financial crisis illustrates both the difficult financial position of consumers and their general view of debt. Real median income (adjusted for inflation) in the U.S. sat at $51,939 in 2013, which is 8% lower than it was in 2007, and is a level last seen in the late 1990s.

With incomes down, it’s no wonder that consumers resisted the urge to splurge over the last several years.

At the same time, members of the largest generation in our economy, the boomers, have all passed their peak spending age of 47 and are now either retirees or empty nesters. These stages of life are marked by saving, investing, and careful spending, not borrowing more.

This doesn’t mean that boomers are paring back their standard of living, just that they will spend accumulated funds instead of taking on more debt.

Non-revolving credit, the category that actually grew in November, consists of auto loans and student loans. In 2009, $719 billion of auto loans were outstanding. By November 2014, this figure had grown to $943 billion, an increase of $224 billion.

That time frame includes the cash for clunkers program, as well as the incredible run-up in auto sales over the past two years. It appears that consumers of all stripes are taking advantage of near-record low interest rates to get a new ride.

This leaves the category of student loans, which increased from $831 billion in 2009 to $1.311 trillion November of 2014, an increase of $480 billion in just four short years!

Unlike purchasing a car with borrowed funds, when you take out a student loan there is no guarantee of the outcome, and there’s no returnrn policy in case you get a “lemon.” This is not the kind of consumer credit that helps an economy grow. In fact, over the long-term it could even work against the economy.

More than 70% of recent college graduates have some level of student debt. These obligations are very difficult to repudiate. Bankruptcy will remove many burdens, but student loans are not one of them.

So the young generation in our economy, the much-hyped group of millennials that are supposed to start walking up their own spending wave, are trying to make their way carrying a load of debt long before they get married or buy a home.

That’s no way to grow an economy.

As young people get married and have kids they climb aboard the train of spending that doesn’t stop for two decades. Who among us wouldn’t do everything we can to keep our children’s standard of living steady, if not growing?

The predictable spending that comes with these life events drives our economy. Buying homes, decorating them, paying for vacations and braces — they all add to our GDP.

While student loans clearly have a benefit — education — the cost has risen so high that young adults are putting off other choices such as marriage or even living alone that are the typical stepping stones leading to more spending.

The dramatic increase in student loans, which appears in official reports simply as “consumer credit,” is nothing to cheer. Along with flat income, student loan debt is probably one of the biggest reasons our economy cannot reach escape velocity.

When you hear that consumers must feel better about the future since they’re taking on more debt, make sure to ask the question: “What kind of debt?”

Because all borrowing is not the same.