Banks Cut Down Credit to Consumers
Posted by Gregg Killoren on August 20, 2009
If consumers are not already deleveraging (a fancy term for paying off debt), financial institutions are assisting them by deeply cutting credit lines. The Financial Times (FT) reports that banks reduced access to credit facilities such as credit cards and home equity lines of credit for one in five U.S. borrowers in the six months leading up to April 2009. These figures are based on a new study released by credit scoring agency Fico.
FT notes, “The study shows that as banks cut credit lines for a larger share of US consumers than they had in the previous six months, they also became more aggressive in their cuts. The average decrease to a consumer’s credit line was $5,100, or 15 per cent of average total revolving credit, more than double the $2,200 average reduction in the six months to October 2008.”
Although credit line reductions can negatively affect credit scores, Fico observed that the cuts, so far, have been made judiciously to avoid damaging borrowers’ credit scores, which would likely push more borrowers into default and exacerbate the consumer credit crisis. Without going into the specifics, by reducing exposure to consumer credit, banks can free up capital required to be set aside for loan loss reserves and certain other regulatory capital requirements, thus improving the banks’ balance sheets.
A concern here for investors is the effect on consumer spending. There is, of course, an awareness that consumer spending is not going to bounce back as strongly as it has in other post-recession periods because of the credit crisis and large debt obligations. But consumer spending may continue to be severely weakened for an extended period of time if consumer’s with healthier financial pictures no longer have access to the same type of credit. This is especially true since a borrower using 70 percent or more of his or her available credit may be refused new loans. In the long term, this is good for the economy. In the short term, this could disappoint the equity markets, which seem to be hoping for a robust consumer recovery.
