Understanding the Economic Landscape Facing Our Customers

By Joe Wilde

In the past year, consumers have seen their incomes lag the aggressive price growth.  Because of this imbalance, they have used up most of their savings and are in the process of maxing out their credit cards to make ends meet.  On top of everything else, the growing threat of a recession could lead to additional income loss.  This trend is not sustainable, and a growing number of consumers have reached the point where they are fundamentally changing how they manage their finances and spend their money.  The best strategy for countering this trend is coming alongside our customers as they face these challenges, offering solutions that they agree are affordable, and then allowing maximum flexibility as their situations change.

It’s getting tougher to make ends meet

As anyone who has purchased groceries or filled up a gas tank certainly knows, prices have been increasing at an alarming rate for several months.  The Consumer Price Index, which measures price changes over time, started accelerating in early 2021 and is now growing at the fastest pace in 40 years^[1].  Most of this inflation started with government stimulus and accommodative Federal Reserve policies during the COVID pandemic, but global supply chain issues and the Ukraine war have also provided an additional boost.  To make matters worse, a recent report from the National Federation of Independent Business suggests that producers will be passing higher prices through to consumers for the next several months.  Many business owners expect price inflation to be a concern well into 2023^[2].

Unfortunately, income has not kept up with the aggressive price growth.  While prices increased 8.5% in the past year, per capita after-tax income only grew 3.0%^[3].  In fact, discontinuing the expanded Child Tax Credit and other COVID relief measures caused income levels to decline until wage growth finally overcame the deficit in Q2-2022.  Regardless, taking away that support has left families at all income levels more vulnerable to higher prices.  A recent survey released by LendingClub Corp and Pymnts.com found that 36% of families making over $250,000 a year were now living paycheck to paycheck^[4].  If some of the highest earners in this country are starting to feel the pinch, you can imagine how hard it is for families at the other end of the income spectrum.

Burning the candle at both ends to get by

The combination of lower disposable income and higher prices is taking a significant toll on Americans.  Because of the government stimulus programs and reduced consumer activity during the COVID shutdown, personal savings in the U.S. hit an all-time high.  However, savings rates have dropped 85% since then and are now at levels not seen since the depths of the Great Recession.  To understand what this means to our customers, consider the following:  Over the past year, savings for the average consumer have dropped $250 every month because of higher household expenses^[5].  Unfortunately, given this trend, it’s not surprising that 56% of respondents to a recent Bankrate survey stated they could not cover a $1,000 emergency expense from their existing savings^[6].

These impacts are not just isolated to the savings account.  During the COVID shutdown, while consumers were building up their savings, they were also paying down debt.  Credit card balances dropped 12% from Q1-2020 to Q1-2021^[7].  Since then, however, everything has reversed, and consumers are now accumulating record-setting amounts of debt.  Total consumer credit has surpassed $4.6 trillion and is growing by more than $30 billion per month^[8].  In the past year, total revolving debt has regained all the balance reduction seen during the COVID shutdown and has also hit an all-time high at over $1.1 trillion.  The fact that credit card balances started growing around the same time that inflation started accelerating certainly helps explain what caused the sharp reversal.  Customers weren’t necessarily buying more.  They were just paying more for what they were buying already.

Consumer priorities are changing

Unfortunately, the situation facing our customers may be getting worse.  Multiple indicators suggest that the U.S. economy is very close to (or already in) a recession.  Over the past 75 years, every single period of consecutive quarterly declines in GDP growth has coincided with a recession.  While nothing has been officially declared yet, Q1-2022 GDP growth was -1.6% while Q2 GDP growth came in at -0.9%^[9].  Even the labor market, which is frequently pointed to as our biggest buffer against a recession, is starting to show cracks.  Since March 2022, the total number of people in the U.S. with a job has dropped 168k (despite the headlines about new job creation) and initial jobless claims have increased 57%^[10].  Customers already struggling to pay higher prices for household essentials are only going to feel more pressure as the threat of lost or lower income from a recession grows.

As economic conditions deteriorate, consumers have responded by reducing their discretionary spending.  A recent report from Morning Consult showed that consumers were cutting back on things like travel, furniture, and even alcohol to help ensure they had enough money for gas and groceries.  Moreover, consumers are now much more likely to delay making large purchases and are quickly trading down to less expensive alternatives^[11].  One look at delinquency and liquidation KPI’s from the past few months should make it clear that our customers are not as concerned about paying off past-due loans as they are about meeting their immediate household needs.  Working with them to demonstrate value and find practical solutions to their delinquent debts is more important now than ever before.

What is being done to fix the problem?

With inflation sitting near 40-year highs, the Federal Reserve has been taking steps to bring prices under control.  The Fed’s stated objective is to achieve a “soft landing” with inflation by slowly increasing interest rates to bring inflation down gradually to the 2% target.  They plan on leveraging the current unfulfilled labor demand to slow things down without spiking unemployment and pushing the economy into a deep recession^[12].

The logic of the Fed’s strategy makes sense, but the outcome is far from certain.  Much of the inflation is caused by factors outside the Fed’s control, which could hurt their effectiveness.  Even the inflation drivers that the Fed can influence typically take several months to improve, which increases the potential for overcorrecting.  Finally, as we saw earlier, a recession may already be looming.  Combine all of this with the fact that the Fed has avoided a recession with rate hikes only three times in the past 68 years^[13], and it becomes clear that they face an uphill battle.

While the odds certainly suggest the Fed will trigger a mild recession before getting inflation under control, it would be wise to consider two additional scenarios:  (1) a “hard landing” where the Fed severely overcorrects and pushes the economy into a much deeper recession over the next several months; and (2) political pressure build-up (because nobody wants a recession during an election year) that forces the Fed to pause rate hikes before they can bring inflation back down to the target levels.  Each of these scenarios would impact our customers differently, and this should be considered with any strategy you use to manage your portfolio.

What does this mean for the Receivables Management industry?

Regardless of what scenario plays out, we will likely see delinquency and liquidation pressure for the next several months.  Higher interest rates will compound the burden from exploding credit card balances, causing more customers to struggle with their monthly payments.  Furthermore, inflation has already eroded the savings, unused credit, and other buffers normally used by consumers.  This makes them much more vulnerable to unforeseen expenses and increases the likelihood of them missing those higher payments.  Keep in mind, this all happens even if the Fed achieves its soft landing.  Things could get even worse if the Fed misses the mark, as a deep recession would cause widespread unemployment and wage losses–and stopping the rate hikes prematurely could cause high inflation to persist for years.

Unfortunately, there is not a “silver bullet” fix to this for our industry.  As any collections veteran who worked through the Great Recession can tell you, the best strategy in this environment is simply meeting the customers where they are and working with them.  Affordability and flexibility are key.  The more we can accommodate our customers’ changing needs in this economy, the better we can influence them to pay us first.  That might mean updating some forbearance, settlement, and payment practices that haven’t been changed in a while.  That could also mean leveraging the improved technology since 2008 and using digital channels to stay on your customer’s radar while giving them the freedom to self-serve when they’re able.  Finally, continuing to engage with customers as they resolve their debts is critical, as it helps demonstrate your commitment to partnering with them through the journey and it allows you to address potential issues before they can derail progress.

With all the uncertainty swirling around, we will have a much better chance of success if we can help our customers see the value in working with us and give them flexible ways to manage their debts on their terms.

Source Notes

^[1] U.S. Bureau of Labor Statistics / St. Louis Federal Reserve; Consumer Price Index for All Urban Consumers: All Items in U.S. City Average

^[2] NFIB Research Center; “Small Business and Inflation”;  April 2022

^[3] U.S. Bureau of Labor Statistics / St. Louis Federal Reserve; Disposable Personal Income: Per capita: Current dollars

^[4] Bloomberg;  “One-Third of Americans Making $250,000 Live Paycheck-to-Paycheck, Survey Finds”; June 1, 2022

^[5] U.S. Bureau of Labor Statistics / St. Louis Federal Reserve; Personal Saving Rate;  Analysis by author

^[6] CNBC;  “56% of Americans can’t cover a $1,000 emergency expense with savings”;  January 19, 2022

^[7] U.S. Bureau of Labor Statistics / St. Louis Federal Reserve; Revolving Consumer Credit Owned and Securitized

^[8] U.S. Bureau of Labor Statistics / St. Louis Federal Reserve; Total Consumer Credit Owned and Securitized

^[9] U.S. Bureau of Labor Statistics / St. Louis Federal Reserve; Real Gross Domestic Product

^[10] U.S. Bureau of Labor Statistics / St. Louis Federal Reserve; Initial Claims & Household Survey Employment Level

^[11] Morning Consult;  “U.S. Household Finances & Consumer Spending Report”;  May 2022

^[12] Board of Governors of the Federal Reserve System;  “Transcript of Chair Powell’s Press Conference”;  May 4, 2022

^[13] U.S. Bureau of Labor Statistics / St. Louis Federal Reserve; Federal Funds Effective Rate