Today’s ‘Deborrowing’ Consumers

This might be the first year since 1980 that CU loans outstanding declined during the year.

November 1, 2010

“Deleveraging” is an obnoxious word. My spell checker doesn’t recognize it; suggesting I change it to “deliberating” or “degenerating” or “decelerating.”

A smart spell checker might have suggested “a major challenge for credit unions.” An even smarter spell checker might have coined the word “deborrowing.”

Deleveraging is the opposite of the finance term “leveraging,” as in leveraging a small investment of one’s own capital to make a much larger investment by borrowing. In English, leveraging means borrowing, so deleveraging must mean reducing borrowing.

That’s just what credit union members have been doing lately. The extent of their deleveraging has surprised us. The Credit Union National Association’s three economists (myself, Mike Schenk, and Steve Rick) publish forecasts of the economy and credit union operations.

The first time we ventur­ed a forecast of credit union loan growth for 2010 was in March 2009, and it was 8%. In September, we lowered our forecast to 7%, then again to 5% in December 2009. By June of this year, we had reduced our 2010 projection to 0%, and in September we further revised it to -1%, our first-ever forecast of a decline in loans outstanding for a calendar year. If our forecast is correct (who could doubt it?) this will be the first year since 1980—during the Carter credit restraint program—that credit union loans outstanding actually declined during the year.

Credit union loan growth for the year, through August, is down almost 1%, so we’re expecting no real growth for the rest of 2010. And credit unions’ share of the consumer credit market is essentially unchanged so far this year, suggesting the total market is shrinking.

Part of this is the typical consu­mer reaction to a recession. Faced with uncertain job prospects, many households cut back on spending, and therefore borrowing. Because the recent recession was particularly severe, this effect has been strong. But there’s more to it than that. Usually in a recession consumers also build savings balances as they cut spending. Through August of this year, total credit union savings is up by only 3.3% (that’s only a 5% annual rate)—really weak for a recession.

Households appear to be devoting extra cash balances they’re accumulating from reduced spending to reducing loans rather than building savings. There are probably two reasons:

1. The borrowing binge of the last two decades saw a huge increase in the ratio of household debt outstanding (consumer and mortgage) to annual disposable income—from less than 80% to more than 120%. Many households feel overextended and are looking to reduce their debt exposure.

2. Today’s very low interest rates mean it makes short-term financial sense to pay ahead on loans rather than to build savings. Interest rates on most members’ outstanding loans are much higher than rates available on certificates and savings, so it’s a good deal to divert surplus funds to extra loan payments.

Weak loan demand is just what credit unions don’t need with current earnings levels. Net income is up from its depressed rate of the past two years; average return on assets will likely come in at almost 50 basis points in 2010, even after both National Credit Union Administration assessments. That’s not enough net income, though, to restore capital ratios and fund growth.

The bad news: Loan growth will be difficult in the next few years. The good news: Credit unions have relatively small shares of their members’ consumer loans (about 50%) and mortgages (less than 5%). And they have a 0% share of nonmember loans. So, even if total household loans outstanding show little or no growth, credit unions can gain loan growth by picking up market share. Much easier said than done, I know. But at least there’s something to work on.

BILL HAMPEL is senior vice president of research and policy analysis/chief economist for the Credit Union National Association. Contact him at 202-508-6760.