Here we go again? The dangers of consumer debt.
After the 2008-09 financial crisis, policymakers said they had learned important lessons and vowed to check the uncontrollable build up of debt. Regulators promised to clamp down on complex syndication tricks and banks agreed to end unscrupulous lending practices (though not all did).
CEOs and risk managers, not directly linked to the financial sector, were also taught a vital lesson: to scrutinise credit default data for signs of a broader economic malaise. Three important FT articles shine light on these developments in the US, UK and China. The warning bells are ringing louder.
In the FT’s Big Read, Ben McLannahan in the US writes of ‘a seven-year boom in car loans that has strong echoes of the pre-crisis mortgage frenzy’. Intense competition among finance companies has again led to relaxed underwriting standards, this time pushing up outstanding auto loans by 70% since 2008 to a new high of $1.17tn. Total household debt is at a record, $12.7tn. Delinquencies are rising and car values are falling, thus trapping consumers with unsustainable loans, and leaving lenders scrambling to reduce their exposure.
Although car loans are still much lower than the $9tn mortgage market, the article notes that 90-day overdue debt is at its highest in six years, while ‘deep subprime’ has risen from 5.1 per cent of total subprime deals in 2010 to 32.5 per cent last year. Recovery rates for some lenders have fallen below 50 cents on the dollar. A potential bust could hurt the US economy badly.
Regulators appear to have been remiss. Auto dealers escaped Dodd-Frank constraints as the focus of concern turned to misleading advertising rather than payment affordability. Loan repayment periods now stretch out for years while contracts allow excessive high loan-to-value, and debt-to-income, ratios with obvious knock-on risks. Also like subprime mortgages, car loans have been sliced up, repackaged and syndicated so it’s hard to know who ultimately owns what debts. Big banks say the risks can be contained. Wells Fargo, for example, has reduced its exposure by 29 per cent from a year earlier. But is it too little too late?
A similar consumer debt story is emerging in the UK’s credit card market. As in the US, lenders have been fighting for customers in an era of low interest rates. But outstanding credit card debt has risen steadily since the crisis, with 64 million cards now carrying some £68bn in debt. A sluggish economy has left 8.8m people relying on credit to cover everyday household expenses, while 3.3 million borrowers pay more in interest and charges than principal over an 18-month period. The government says ‘a repayment plan backed by law will help households with serious debt get back in the black in a more manageable way’ the FT reports. It sounds like a managed default.
Finally, an in-depth FT analysis of China’s property boom considers parallels with 1980’s Japan and its ensuing ‘lost decades.’ Put simply, ‘China has halved its growth rate and doubled its debt over the past eight years.’ Overall indebtedness has risen from nearly 200 per cent of GDP in 2010 to 250 per cent today. Non-financial corporate debt-to-GDP ratio has also reached 155%, similar to 80’s Japan. Classic warning signs are cropping up everywhere: in soaring costs of specialist teas, fortunes paid for art, and the cost of a 100 sq. metre Beijing apartment that is 50 times the local annual average income. A crash would severely harm the global economy: China accounts for 40 per cent of global growth, and 20% of US imports (as did Japan in the 80’s). But at least China’s authorities are prepared to crack down on speculative behaviour with ‘a formidable arsenal of weaponry.’