“They are taking on debt that they can’t repay. A drop in savings and rise in delinquencies means you can’t support the (overall) spending,” said Stephen Gallagher, economist at Societe Generale. Any dramatic increase in prices, such as gas or the results of higher tariffs could result in “a rather dramatic scaling back of consumption.”
Gallagher was talking about the 40 percent of the population that is driving up consumption and doing so by running up credit card debt, dipping into savings, and just squeaking by every month. Consumption spending makes up 70 percent of the economy’s output, or $11.8 trillion in 2017. Historically, the middle and upper-income portions of the economy has driven consumption, but in the last two years, the lower-income portion has driven consumption spending while the upper-income portion has sat pretty, avoiding increases in spending. What they’re doing with their money is only something we can speculate about.
But that bottom 40 percent is what can create problems for the economy when they run up against a situation where they are overwhelmed with debt and other obligations. It’s only a car repair away from disaster for many.
The Federal Reserve in its “Report on the Economic Well-being of U.S. Households in 2017” found that “Four in 10 adults in 2017 would either borrow, sell something, or not be able pay if faced with a $400 emergency expense.” That percentage has decreased in the past five years, but the tenuous economic situation of this group has increased. One in five can’t meet current monthly expenses with their current incomes. They skip paying someone every month. Who doesn’t get paid? Top of the list is credit cards which 49 percent skip paying, followed by phone bills at 27 percent, and utilities (water, gas, electric) at 26 percent. Not far down the list is rent or mortgage at 17 percent and car payment at 14 percent.
Already, credit card and auto loan delinquencies are increasing at a worrisome rate. Credit cards have been the fallback source of payment for many lower-income folks but this year has seen a spike in delinquencies. Since 2013, delinquencies increased 22.5 percent to 1.96 percent, the highest percentage since 2010. Not far behind are auto loans whose delinquencies increased 18.7 percent since 2013 to 1.46 percent, the highest since 2009. Credit card debt is “only” a $815 billion market, apparently not large enough to give Wall Street shivers if it crashes, but still a mainstay of that 70 percent of the economy.
One reason for the tenuous situation with credit card debt is the easing of qualification for credit cards. Subprime auto loans are another problem. Reports Pymnts.com “Borrowers in the U.S. are defaulting on subprime auto loans at a higher rate than during the financial crisis in 2008. Data from Fitch Ratings shows that the delinquency rate for subprime auto loans more than 60 days past due reached the highest since 1996 at 5.8 percent. The default rate during the 2008 financial crisis was around 5 percent.”
The reason for this shaky situation for lower-income people is that while the economy has grown, wages have not. Factor in inflation, and we find that hourly earnings have dropped for 80 percent of the private-sector workers in this country. These include people working in healthcare, fast food, and manufacturing. To higher-income people, it doesn’t matter as much because they were ahead of the game to begin with. But to that 40 percent who live on the edge, it means having to pay some bills late such as credit cards, phone, utilities, cars, and rent.
Who makes up this 40 percent? The largest determiner is education level. The Federal Reserve Report says “Those with less education are also less able to handle unexpected expenses.” For those people with bachelor’s degrees, 80 percent have no problem with bills. But for those with a high school education or less, only 54 percent are in good shape. And it only looks to get worse for the less-educated. The Federal Reserve reports that of the 2.6 million jobs added last year, seven of 10 of them went to college graduates. For high school graduates, only 1 percent could take advantage of the job gains. That leaves the less educated even deeper in their financial holes with little hope of getting a higher paying job. And those people with high school diplomas and some college amount to 117.5 million people or 46 percent of the population in the workforce. That’s a huge chunk of people who are looking for that 1 percent of newly created jobs that require only a high school education to qualify for.
That puts those 117.5 million people in the crosshairs of being on the losing end of employment and income and in a place that may relegate them to a dark corner where they will always be eking out an existence month-to-month. They fearfuly await that $400 bill that will put them in a hole they can’t climb out of. It is only to going get worse for them. The Georgetown University Center on Education and the Workforce estimates that by 2020, 65 percent of jobs will “require some form of postsecondary education.” That will leave 46 percent chasing 35 percent of the jobs that require only a high school education.
One fact that is particularly concerning and telling is the fact that most of this 40 percent can’t answer five financial literacy questions the Federal Reserve asked correctly. For example, 57 percent could not correctly answer the question, “Considering a long time period (for example, 10 or 20 years), which asset . . .normally gives the highest returns? [Stocks, Bonds, Savings accounts, Precious metals].
Some 41 percent didn’t know that housing prices could decline, and 36 percent didn’t know that if earnings increase 1 percent and inflation 2 percent, you lose money. You don’t have to be good at math to figure that one out.
The upshot of all this is that while the U.S. economy is hanging on and people are feeling confident with their economic situations, some may be living an illusion watching their meager savings dwindle and their credit card debt increase every month. Their incomes are simply not enough to cover expenses. As a result, more and more people, particularly lower-income, must dip into what savings they have to cover month-to-month expenses. The savings rate, reports the Federal Reserve, fell to 2.4 percent in January, the lowest since 2006.
If the current situation continues, that 40 percent of the population now driving the economy through borrowed money and declining savings, could slow down its spending and drastically reduce that $11.8 trillion, thus sending the U.S. economy into a tailspin.
By Robert L. Cain
