Recent Fed data have raised red flags about the financial health of the U.S. consumer. U.S. household debt rose above $17 trillion as of second-quarter 2023, led by a $45 billion increase in credit card debt to $1.03 trillion, according to the Federal Reserve Bank of New York's Q2 2023 Household Debt and Credit Report. However, U.S. economic data indicate a robust economy, despite persistent inflation. S&P Global Ratings believes the resilient U.S. consumer will generally remain above water, with some stress likely in the overextended segments.

U.S. Consumer Debt Burden Rose 21% In Three Years

Consumer debt has increased about 21% ($2.92 trillion) since fourth-quarter 2019, bringing the aggregate debt burden to about $17 trillion as of second-quarter 2023. Residential mortgage loans saw the largest increase, at 26%, followed by "other" consumer loans (+22%), auto loans (+19%), credit cards (+11%), and student loans (+4%). Meanwhile, home equity lines of credit (HELOCs) fell by 13%, likely due higher interest rates.

This increase in non-mortgage debt is generally worrisome. However, the percentage of non-mortgage debt to total debt is still below pre-pandemic levels at 29.6% as of second-quarter 2023 (compared with 32.4% as of fourth-quarter 2019). Credit card debt as a percentage of non-mortgage debt to total debt increased slightly over the same period to 20.4% from 20.2%, while auto loan debt increased to 31.3% from 29.0%.

Below we take a closer look at the performance of the six major U.S. consumer debt types.

Residential mortgage loans

The $2.46 trillion increase in residential mortgage debt began in earnest between second-quarter 2020 and fourth-quarter 2022. During that time, growth averaged about 2% per quarter as households took advantage of low mortgage rates. The average 30- and 15-year fixed mortgage rates declined to 2.9% and 2.3%, respectively, in 2021, from 3.1% and 2.6% in 2020, and 3.9% and 3.4% in 2019, according to Freddie Mac data. However, mortgage originations have been declining since then due primarily to higher mortgage rates (the 30- and 15-year fixed mortgage rates were 6.71% and 6.06%, respectively, as of June 2023) and tighter underwriting standards. Despite the strain on affordability, delinquency rates remained low. The 90-plus-day delinquency rate of 0.46% as of second-quarter 2023 is well below the 1.07% as of fourth-quarter 2019 and the even higher levels reached during the Global Financial Crisis (GFC) in 2008-2009 (see chart 1).

Chart 1

Credit card debt

Outstanding credit card debt jumped to an average of $1.03 trillion as of second-quarter 2023 from an average of $0.88 trillion in 2019. Credit card debt declined at the onset of the COVID-19 pandemic when U.S. consumers scaled back spending and increased savings (see chart 2). However, the dip began to reverse in second-quarter 2021 as travel and seasonal spending resumed, and later as inflation started to drive up the cost of goods and services. This increase in credit card debt could reflect a widening gap between consumer income and expenses, which is worrisome given the revolving nature and variable interest rates within the asset class.

Nevertheless, U.S. consumers appear to be managing their credit prudently and paying their obligations on time, despite their higher outstanding credit card debt. We still haven't seen the combination of a sustained increase in revolving debt balance, higher card utilization, and lower payment rates that could signal a breaking point. This could lead to an unsustainable increase in debt load and dramatically elevated defaults. The credit card utilization rate of 22.4% as of second-quarter 2023 is still below the peak reached during the GFC. The utilization rate (calculated as the $1.03 trillion credit card balance divided by the combined $4.6 trillion consumer credit limit) is below the 23.8% rate as of fourth-quarter 2019 and the almost 28% rate in late 2009 during wake of the GFC (see charts 3A and 3B). Similarly, the 90-plus-day delinquency rate of 8.0% as of second-quarter 2023 is lower than the 8.4% rate as of fourth-quarter 2019 and the almost 14% rate during the GFC and immediately afterward (see chart 1).

Chart 2

Chart 3A

Chart 3B

Auto loans

Auto loan debt reached $1.58 trillion as of second-quarter 2023, up $25 billion since fourth-quarter 2019. The increase partly reflects higher vehicle prices following the dislocation in global supply chains that started in second-quarter 2020, as well the shift in consumer spending habits. U.S. consumers with higher savings (due to curtailed spending and pandemic-related forbearance and government support programs) took on larger auto loan debt with higher monthly payments during the pandemic. At that time, auto lenders broadly loosened underwriting standards as they pursued consumers flush with savings. Nonetheless, despite the increase in debt and payment levels, the 90-plus-day delinquency rate was 3.8% as of second-quarter 2023--well below the 4.9% rate as of fourth-quarter 2019 and the over 5% rate in the immediate aftermath of the GFC (see chart 1 above).

Home equity loans

HELOCs declined to $340 billion as of second-quarter 2023 from $390 billion as of fourth-quarter 2019. Lenders, especially regulated banks, remain diligent in their HELOC underwriting due to the role this asset class had in precipitating the GFC. HELOC utilization and delinquency rates are still both below pre-pandemic and GFC levels. The HELOC utilization rate was 37.6% as of second-quarter 2023, significantly below the 42.7% rate as of fourth-quarter 2019 and the 50%-55% rates during the GFC (see charts 3A and 3B above). The 90-plus-day delinquency rate of 0.6% as of second-quarter 2023 was also lower than the 0.8% rate as of fourth-quarter 2019 and the above 5% rate after the GFC (see chart 1 above).

Other consumer loans

Store retail credit cards and unsecured personal consumer loans increased by $100 billion to $530 billion as of second-quarter 2023, from $430 billion as of fourth-quarter 2019. The 23% increase poses a degree of consumer risk, especially when considering the increased proliferation of buy-now-pay-later (BNPL) unsecured loans, which could add to the total debt. The 90-plus-day delinquency rate of 7.6% as of second-quarter 2023 is higher than the 7.0% rate as of fourth-quarter 2019, but well below the over 11% rates during the wake of the GFC (see chart 1 above).

Student loans

Student loan debt rose marginally to $1.57 trillion as of second-quarter 2023, up from $1.51 trillion as of fourth-quarter 2019. Combined with the low 90-plus-day delinquency rate of 0.6% as of second-quarter 2023, this slight increase reflects the recently expired three-year payment moratorium on student loans.

Lenders And Consumers Navigate Inflationary Conditions

Residential mortgage loans have increased significantly in recent years, but non-mortgage consumer debt levels are not substantially higher than they were in 2019. Moreover, the increase in U.S. consumer debt load hasn't had a meaningful impact on consumers ability to repay their debt.

Below are some key observations about U.S. consumer debt:

• Residential mortgage debt is now roughly 33% higher than during the GFC. However, most of the recent increase in residential mortgage debt was in the form of low interest, fixed-rate loans, which act as an inflation hedge. This contrasts starkly with the GFC, when lower-balance residential mortgages had higher monthly payments (and often with variable-rate or hybrid mortgages) due to the higher interest rate environment in 2007-2009. Not surprisingly, the residential mortgage debt servicing ratio of 3.93% as of first-quarter 2023 (as a percentage of disposable income) is below the 4.08% level as of fourth-quarter 2019 (see chart 4). Because residential mortgages are the largest debt obligation for U.S. consumers, this lower ratio is a strong positive signal for consumer credit health. There are no signs of systemic property overvaluation (e.g., bubbles) in the U.S. economy despite the increase in the house price-to-income ratio, which now sits at 134% (according to OECD data).
• The U.S. personal savings rate has declined significantly, falling to 4.4% of disposable income as of second-quarter 2023 from 26.3% as of second-quarter 2020. Yet the strong labor market continues to allow U.S. consumers to rebuild depleted savings and satisfy debt service obligations. Across all debt types except "other" consumer loans, 90-plus-day delinquency rates, new foreclosures, and bankruptcy filings are lower as of second-quarter 2023 compared with pre-pandemic levels (see charts 1 above and chart 5 below). U.S. consumers remain resilient and are prudently managing their balance sheets. We believe those who are severely pressured will prioritize home, auto, and credit card payment obligations above student loans, and this in turn will influence delinquency rates among the various consumer asset classes.
• Residential mortgages and consumer debt servicing required 3.93% and 5.70% of disposable income, respectively, as of second-quarter 2023--below the 4.08% and 5.74% levels as of fourth-quarter 2019. The broader financial obligations (total debt service, household expenses, heat, rent and lease payments, etc.) ratio of 14.3% as of second-quarter 2023 is still lower than the 14.7% reached in 2019 (see chart 4).
• Borrowers are now facing tighter credit requirements for new debt. According to the July 2023 Senior Loan Officer Survey, banks reported tougher loan standards for all loan categories, especially subprime credit card and subprime auto loans. Banks also expect more stringent credit standards through year end. Non-bank auto lenders, particularly subprime lenders, have also become more selective as they face early underperformance of the third-quarter 2021 through fourth-quarter 2022 vintages. We've noted that more subprime auto loan ABS issuances feature tighter underwriting standards, and lenders are starting to favor obligors with stronger credit profiles (see charts 6A and 6B). Banks have also reported tighter standards for loans for large, middle-market, and small firms, which will affect BNPL lenders and constrain credit to the "other" consumer loans segment.
• Lenders and servicers have been operating under a more stringent regulatory environment since 2007-2009, and therefore are now nimbler and better able to adjust to the evolving credit cycle. Since the GFC, these companies have developed servicing infrastructures that respond quickly to consumer performance changes. This has allowed servicers to address late payments as early as two days past due and in advance of the full delinquency cycles, and to deploy action plans to address the situation.

Based on these factors, we believe U.S. consumers will remain healthy over the next 12 months. U.S. economic data indicate a robust economy, despite persistent inflation and higher interest rates.

Chart 4

Chart 5

Chart 6A

Chart 6B

Overextended Consumers Are Most At Risk

Higher interest rates combined with rising house and car (both new and used) prices will continue to strain affordability, and new debt origination will put upward pressure on debt service ratios. While not a major concern, the recommencement of student debt repayment (which was paused for three years) will increase the pressure. However, U.S. consumers are not all in the same boat. That is, the ongoing economic stress will have a non-uniform impact across the consumer base, depending on the household wealth and other socioeconomic factors.

We believe the overextended segments of the credit card, auto loan, and unsecured consumer loan asset-backed securities (ABS) sectors have and will continue to pose the greatest credit risk, irrespective of their credit risk profiles. Overextended consumers have the least cushion to soften the blows from rising interest rates and weather the corrosive effect of inflation on income and affordability, as well as other economic headwinds. As Charles Dicken's Mr. Micawber wisely said, "Annual income twenty pounds, annual expenditure nineteen pounds nineteen and six, result happiness. Annual income twenty pounds, annual expenditure twenty pounds ought and six, result misery."

Credit card ABS

We believe our base-case and stress assumptions, which are calibrated against major economic downturns, continue to capture the expected performance risks of the receivables in each credit card trust rated by S&P Global Ratings. We currently rate 11 credit card trusts, which we tracked in our U.S. Bankcard Credit Card Quality Index (CCQI) and U.S. Retail-Private Label CCQI. These rated trusts represent about 15%-20% of the U.S. credit card balances outstanding.

On average, about 72% of bankcard receivables are from accounts with minimum FICO scores of 720, and only 8% have FICO scores of 660 and lower. In the retail private label trusts, which tend to have weaker credit profiles, 40% of the receivables have FICO scores above 720 and 23% have FICO scores below 660. Accounts aged five years and older represent approximately of 99% and 79% of bankcard and retail-private label receivables, respectively.

The strong credit metrics for both indices continue to influence performance, which remained strong throughout the recent market dislocation and the subsequent economic headwinds. This differs from the general credit card market, which includes all card types and risk profiles, as well as recent unseasoned origination. Chart 7 shows the performance differential of the bankcards with stronger credit profiles relative to retail and private-label cards.

Chart 7

Auto loan ABS

The outstanding collateral pools for the auto loan ABS transactions we rate show a marked performance differential between prime and subprime as of second-quarter 2023. These rated trusts represent about 9%-11% of the auto loan market. The subprime and prime 60-plus-day delinquency rates were 5.37% and 0.49%, respectively, as of second-quarter 2023--higher than the 5.03% and 0.39% rates as of second-quarter 2019. However, the subprime and prime net loss rates both remained virtually unchanged at 6.87% and 0.48%, respectively. The performance differential between the two credit tiers increased after declining during 2020-2021 (see table 1).

Some subprime auto loans that were originated in fourth-quarters 2021 and 2022 have performed worse than expected. This is likely due to higher-priced vehicles (and corresponding loan payments), looser underwriting standards among some lenders, full balance charge-offs for some defaults, delays, and lower recovery rates. The overextended U.S. consumers in these vintages underperformed significantly as inflation took effect and savings were depleted. We therefore revised and raised our loss expectations for some of these vintages, and we lowered our ratings on some speculative-grade (rated 'BB+' and lower) classes. We also increased our loss expectations for most of the new subprime auto loan ABS transactions issued in 2023.

Table 1

Unsecured consumer loans ABS

The unsecured consumer debt market is showing weaker performance. This segment typically consists of a high proportion of weaker credit profile borrowers across the credit spectrum, and the transactions we rate represent about 4% of the ABS market. Net losses ranged between 3% and 14% as of second-quarter 2023--higher than the 1%-10% reported in second-quarter 2019 (see table 2). We believe our loss assumptions for new and outstanding unsecured consumer loan ABS transactions reflect the expected performance risks.

Table 2

The Tight Labor Market Is Keeping Defaults At Bay, For Now

Consumer spending, which accounts for roughly two-thirds of the U.S. economic output, may begin to slow with persistent inflation and "higher-for-longer" interest rates. Indeed, economic uncertainty could force consumers, especially overextended borrowers, to make certain difficult choices that could lead to higher debt and weaker credit profiles. While a tethered consumer base impedes economic activity and is potentially a credit negative, the currently tight labor market should allow the prudent consumer to adapt to the changing economic environment and navigate the challenges that lie ahead.

Editor: Georgia Jones