Shop until you drop – the madness of the American consumer

The economic story of the year so far is how hopes for lower interest rates have been dashed by a disruption in the trend decline in inflation. The gravity-defying power of consumer spending deserves a hearty share of the blame. Unbroken by the highest cost for consumer credit in decades, it is difficult to look at spending today and find indications of a consumer that is chastened by higher financing costs. But with pandemic-era savings now fully depleted, bridging the gap between aspirational spending and comparatively modest real income growth, consumers are running out of options.

On an inflation-adjusted basis, consumer spending tracked reasonably well with disposable income growth in the 20 years leading up to the pandemic. In overly simplistic terms, more income meant more spending. Beginning during the quarantine and early pandemic years the linkage between these series broke down. Initially income soared amid generous fiscal stimulus programs as spending was cut way back. Then inflation generally outpaced income growth as real disposable income cratered yet spending roared ahead facilitated by stashed cash and easy access to relatively cheap credit.

More recently, real disposable income resumed growth but has lost momentum. Remarkably, through the past few years, consumer spending has continued to expand at a steady rate. The sustained staying power of the consumer has perennially exceeded expectations in recent years and has made a mockery of the historical relationship between income and spending. What explains this apparent ability to defy gravity?

When the paycheck alone cannot provide the necessary funds, consumers still have options. For starters, they can rely on savings previously stashed away at an earlier date, or they can also set aside a smaller amount of each paycheck redirecting a larger share of income to spending. Both of these dynamics results in a lower saving rate and have helped float the consumer this cycle. Another way to overcome insufficient funds is to reach for the credit card.

In looking at revolving credit, the category that is primarily comprised of credit card debt, the take-up rate of borrowers is stunning. Take for example the fact that from the peak prior to the financial crisis in 2008 until the peak prior to the pandemic in 2020, revolving credit rose $80 billion. Contrast that with the roughly $240 billion increase from the pre-pandemic peak through March 2024. Credit card debt has grown three times as fast over just the past four years as it did during the almost 12-year stretch in the prior credit cycle.

Access to credit for consumers is less readily available today than it was just a year or so ago. After loosening standards in 2021 and 2022, banks have been tightening lending standards on credit cards more recently. Meanwhile, banks’ willingness to lend is lower now than it was at the height of the recessions of the early 1990s or early 2000s. Only the financial crisis and the pandemic were worse.

It is not only tough to find credit, but the cost of credit for consumers has not been higher at any point in the past 30 years. From the mid-1990s until the start of the current Fed tightening cycle, credit card interest rates never climbed above 17%. Today the APR for all borrowers is north of 21%.

Taken together, the run-up in revolving debt combined with the much higher financing costs raise doubts about the ability of credit to continue to make up for the shortfall between modest real income growth and aspirational spending.

Consumers keep spending, and they are pulling out all the stops to do so. Interest rates are perched at 30-year highs leading to serviceability challenges as delinquencies are ticking higher. The recent run-up in credit card borrowing does not look sustainable. Households should start getting more selective in spending behavior. The American consumer is still spending like a drunken sailor, and it is a disturbing American cultural phenomenon. It is time to stop shopping and it is time to stop spending money that you don’t have. Be frugal, be smart, be happy…