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Economic Insights

Increased borrowing by consumers may help boost U.S. growth—and influence future Federal Reserve policy moves.

An interesting trend has developed in the Federal Reserve's data. Consumer credit use has begun to accelerate, and on a 12-month basis, it now far outpaces household income growth. Consumers, of course, could recapture their former caution, but if this trend gains steam, it could have at least three important implications: 1) By financing additional spending, an increased use of consumer credit would, for a time, prompt an acceleration in the overall pace of economic growth, allowing a period in which the economy would seem to have recaptured its historical, underlying real growth rate; 2) if the pattern persists, it might in time generate the kinds of excesses that could prompt a correction, even a recession; and 3) the pattern, even now, offers Fed policy makers another reason to begin the much-anticipated move to raise interest rates.   

Actually, the acceleration in the use of consumer credit has built over time. The relevant data appear in Table 1. Back in 2010, right on the heels of the Great Recession and the financial crisis of 2008–09, households, unsurprisingly, were exceedingly cautious. They trimmed what the Fed calls revolving credit—largely credit card debt—by 7.6%. They increased non-revolving debt, mostly auto and student loans, by a modest 2.7%. Thereafter, they expanded their auto debt at an accelerating pace (as Table 1 shows), but they clearly restrained their use of credit card debt, until, that is, the last couple of quarters, which, even considering a catch-up for the weather-depressed first quarter, still grew at a much faster pace than previously.1  

Since consumers are some 70% of the economy, there can be little doubt that this use of credit will result in spending. The most immediate effect of this trend should be an acceleration in the overall pace of economic growth. That impetus is already present in data on the economy from the Department of Commerce. The jump in consumer credit during this year's second quarter, particularly in credit card debt, helped propel overall real consumer spending to an annual rate of 3.6%. The jump accounted for almost two-thirds of the real economy's 3.9% surge during that time. If it were not for an anomalous 2.6% surge in government spending during that quarter and a housing rebound from the first quarter's weather-depressed levels, consumer spending would have accounted for almost 80% of that quarter's growth. Also consistent with the continued rapid growth of credit card debt in particular, consumer spending showed a powerful 3.2% real annual pace of advance during the summer quarter, actually accounting for more than all of the admittedly slow 1.5% annualized growth rate of the real economy. 

Should the pattern continue to sustain consumer spending at these rates, it would not be unreasonable to expect real gross domestic product to expand at better than a 3.0% annual rate in coming quarters, far faster than it has on average during this recovery thus far. Consumers could, of course, break this pattern and slow their spending growth in future quarters. Such a move would be far from unprecedented. They have pulled back after an acceleration several times during this recovery, creating a picture of rapid spending growth for three to six months, followed by a quarter or two of slow consumer spending, during which households reestablished savings rates. This could happen again. Still, the fact that credit use is a factor now, but was not in the past, suggests that this acceleration may be more durable.

Even if the consumer pickup proves to be strong enough to sustain a welcome uptick in rates of real economic growth, there is a downside to the pattern. By increasing consumer debt faster than incomes have grown, this behavior, if it lasts, will in time create excesses that will demand spending cutbacks. Thus, the more aggressive the current behavior on debt use becomes, the faster those excesses will reach extremes and the sooner households will have to begin those downward adjustments—in other words, there will be a greater chance of recession. Fortunately, past caution has left households far from the kinds of extremes that would demand such a correction. Even including the recent surge in the use of revolving credit, outstanding amounts of such debt remain at 22.7% of household income, admittedly up from 20.8% in 2011, but still below levels recorded prior to the Great Recession. It would, then, take a while to generate these kinds of pressures, even if the recent rapid pace of debt growth persists. The direction nonetheless signals such an end, unless consumers moderate recent borrowing trends.

However the figures work out going forward, these recent patterns give ammunition to those at the Fed who want to begin the process of raising interest rates. The growth of credit demand itself gives voice to a level of consumer confidence that could reassure policymakers of a fundamental economic situation that is strong enough to sustain a recovery even in the face of higher interest rates. If that were not enough, current trends also encourage rate increases as a way for the Fed to get policy in front of possible debt excesses and their contrary ultimately ill effects on the economy, even though such trouble would only emerge in the longer run.

 

Table 1. Consumer Debt
($ in billions)

 

Outstanding Amounts

% Change*

 

Total

Revolving

Non-Revolving

Total

Revolving

Non-Revolving

2010

$2,646.9

$839.5

$1,807.4

-1.0

-7.6

2.7

2011

2,755.4

841.2

1,914.2

4.1

0.2

5.9

2012

2,922.9

845.9

2,077.0

6.1

0.6

8.6

2013

3,098.8

858.2

2,240.6

6.0

1.4

7.9

2014

3,317.2

890.0

2,427.2

7.0

3.7

8.3

 

 

 

 

 

 

 

2014 3Q

3,267.5

883.4

2,384.0

6.9

3.5

8.2

    4Q

3,317.2

890.0

2,428.2

6.1

3.0

7.3

 

 

 

 

 

 

 

2015 1Q

3,363.4

890.8

2,472.6

5.6

0.4

7.5

    2Q

3,434.8

910.3

2,524.5

8.5

8.7

8.4

    3QP

3,499.2

925.2

2,574.0

7.5

6.5

7.9

Source: Federal Reserve.
*All stated at a compound annual rate from the previous period. P = preliminary figure.

 

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