By Ray Birch
WASHINGTON—Can U.S. borrowers shoulder the additional debt Federal Reserve rate hikes will bring this year?
Not likely, according to WalletHub, especially if the Fed raises rates three times in 2018 as it has indicated it is likely to do. WalletHub contends that already credit-strapped borrowers will markedly increase their defaults if the Fed raises rates three times this year.
WalletHub reports its analysis suggests consumers this year are expected to pay an additional $7.4 billion in interest due to Fed rate hikes over the last two years and those that should arrive in 2018.
“That third rate hike could be the straw that breaks the camel’s back,” said Jill Gonzalez, senior analyst at WalletHub. “I say this because now we are seeing delinquencies rise and, therefore, defaults are expected to rise, too.”
Gonzalez emphasized that each rate hike means an additional $1.5 billion in interest to be paid annually by consumers.
Rising Delinquency Warnings
The warning signs about rising delinquencies and greater charge-offs have been appearing for about one year, said Gonzalez, who noted that lenders may not be paying attention due to the record low delinquency rates post-recession.
“But 2017 is the first year delinquencies started creeping up from their record lows as debt levels have now reached record highs,” she said. “We are already at what we would consider an unsustainable debt level—pre-recession the average credit card debt was $8,400, now we are looking at the $8,600 mark. By the end of 2017, U.S. consumers will likely owe more credit card debt than ever before. The current end-of-year record, set in 2008, is roughly $984 billion. We’ll flirt with the $1-trillion mark this year.”
Jill Gonzalez, WalletHub
Gonzalez emphasized that the percentage of people who are 30 days past-due on their credit card payments has increased by 26% from the first quarter of 2016 through the third quarter of 2017, according to the most recent data available from Equifax.
Moreover, Gonzalez said there is a big warning sign to be found in the data early in 2017, noting that in the first quarter of every year U.S. consumers typically pay off a significant chunk of their debt after receiving year-end bonuses and refunds. Then, in Q2, it is generally a mixed bag of people paying off debt and accruing more debt, so the second quarter typically remains fairly stable.
“But this year people went right back to spending in the second quarter and the debt level went right back up, despite the Q1 paydown,” she said.
But if the Fed raises rates three times in 2018, that third hike will prompt lenders to take strong action she said, which they have yet to do because delinquencies have remained low. She said the movement in delinquencies from the third hike would be significant and therefore draw the full attention of lenders.
“Not only will the delinquencies sharply rise, but we will also see the greater defaults,” she said. “We believe this will cause a decrease in credit quality and a tightening of lending standards.”
If lenders tighten standards, Gonzalez sees several repercussions.
“As far as credit cards, which are directly tied to the prime rate, we will see tighter standards among the credit tier cutoff points,” she said. “That, obviously, will lead to fewer approvals.”
Balance Transfer Deals
Gonzalez also believes that card balance transfer offers will be adjusted.
“We are seeing pretty good deals when it comes to rewards and the 0% intro APRs on balance transfers,” said Gonzalez. “Instead of the 18-21 months on intro rates we are used to, I think we will see those shrink to six-12 months by the end of the year.”
Gonzalez had advice for lenders who may be lulled into a false sense of security with the low delinquencies post-recession. She said if lenders wait to tighten standards until they see the strong signs of trouble following the Fed’s third rate hike, they could be moving too slowly to prevent large losses.
“Waiting until the third rate hike could very well be too late for lenders,” said Gonzalez.