Karim writes:

*=Non-seasonally adjusted

Best Consumer Credit Since ‘06 Reveals Loan Rebound Across U.S.

June 25 (Bloomberg) — Michael Busick says his credit union “was shocked” to discover his credit score was 812 of a possible 850 when he applied for a $19,500 new-car loan.

The loan officer told Busick he rarely sees scores so close to perfect, said the Charlotte, North Carolina, math teacher, who added that he always pays his bills on time and doesn’t “overextend.” He got the funds in May.

The average U.S. credit score — a predictor of the likelihood lenders will be paid back — rose to 696 in May, the highest in at least four years, according to Equifax Inc., a provider of consumer-credit data. The ratio of consumer-debt payments to incomes is the lowest since 1994, and delinquencies have dropped 30 percent in two years, Federal Reserve data show.

Improving credit quality gives households the ability to lift borrowing as concerns ease about rising gasoline prices, hard-to-find jobs and falling home prices. A reacceleration in spending would belie Morgan Stanley economist Stephen Roach’s assertion that consumers will be “zombies” for years because of too much debt.

“The financial situation of the household sector has improved far faster and far more than everyone thought it would two years ago,” said James Paulsen, chief investment strategist for Wells Capital Management in Minneapolis. “People are still locked into the view that consumers are facing record burdens, and they are not. There has been a change that is sustainable and durable.”

Willing to Lend

Bank senior loan officers reported a pickup in demand for auto loans in the second quarter, following first-quarter growth for all consumer lending — the first increase since 2005, according to a quarterly Fed survey released in May. About 29 percent were more willing to make consumer installment loans, the highest percentage since 1994, the survey found.

“The household deleveraging process is much further along than is appreciated,” said Mark Zandi, chief economist at Moody’s Analytics Inc. in West Chester, Pennsylvania. “This is evident in the rapid improvement in credit quality. ‘Zombie consumers’ is a mischaracterization of the state of the American consumer.”

More borrowing could help spur growth slowed by higher gasoline prices, Paulsen said. That will make stocks more attractive than bonds, pushing the Standard & Poor’s 500 Index up about 8 percent to 1,450 by year end, while raising the yield on 10-year Treasury notes more than half a point to 3.75 percent, he said.

Fewer Defaults

Discover Financial Services’ shares have risen about 43 percent this year to $26.55 on July 1. The Riverwoods, Illinois- based credit-card issuer reported a record second-quarter profit of $600 million on June 23, more than double a year earlier, as consumers spent more and defaulted less.

Fewer losses will benefit stocks of other credit-card and banking companies, said senior analyst Brian Foran of Nomura Securities International Inc. in New York, who has a “buy” rating on Discover, Capital One Financial Corp. and U.S. Bancorp, Minnesota’s biggest lender.

Consumers have reduced debt by more than $1 trillion in the 10 quarters ended in March, according to data from the Federal Reserve Bank of New York, and Roach, nonexecutive chairman of Morgan Stanley Asia, says they will retrench “a minimum of another three to five years.” While household obligations are at a 17-year low because of increased savings and lower interest rates since 2007, debt remains high, he said. He calculates that it amounts to 115 percent of income, compared with a 75 percent average from 1970 to 2000.

‘Overly Indebted’

“What I worry about now is we are creating a whole new generation of zombie consumers in the United States,” Roach said in a Bloomberg Television interview with Carol Massar. “We need to encourage balance-sheet repair and adjustment by overly indebted, savings-short consumers.”

Roach’s view is supported by economists who say the credit that fueled the housing boom from 2002 to 2006 will take years to unwind.

“It’s pernicious, it’s ongoing and it’s holding back the growth because people are going to save more and spend less, and this is a process that will last for several years,” said Kevin Logan, chief U.S. economist at HSBC Securities USA Inc. in New York.

Confidence among U.S. consumers rose to a 10-week high for the period ended June 26 as gasoline prices declined, according to Bloomberg’s Consumer Comfort Index. Expectations had soured in the past few months following a 29 percent surge in regular unleaded prices during the past year, according to AAA, the nation’s largest auto club.

Falling Home Values

Unemployment climbed to 9.1 percent in May, the highest this year, figures from the Labor Department showed June 3, while the S&P/Case-Shiller index of property values in 20 cities fell 4 percent from April 2010, the biggest drop since November 2009.

Even so, Dean Maki, chief U.S. economist at Barclays Capital Inc. in New York, says the growth in credit reflects an underlying optimism, part of a virtuous cycle. As a Fed economist in 2000, he published research that concluded “high debt burdens are not a negative force” and the debt-income ratio isn’t reliable in predicting spending.

“Stronger credit growth is associated with stronger consumer spending,” Maki said. “When consumer credit is growing, it is a sign that households have become more confident about income prospects.”

Rising Profits

Craig Kennison, a senior analyst at Robert W. Baird & Co. in Milwaukee, predicts lending profits will rise at CarMax Inc., the largest U.S. seller of used cars, and at Milwaukee-based Harley-Davidson Inc., the largest U.S. motorcycle manufacturer.

Their finance arms “have fully recovered,” said Kennison, who rates both “outperform.” CarMax, based in Richmond, Virginia, “is looking to take a larger share of the loan originations at CarMax dealerships, a sign of confidence,” and “Harley-Davidson is poised to see retail growth for the first time in the U.S. since 2006.”

Households spent just 16.4 percent of their earnings on debt payments in the first quarter, including lease and rental payments, homeowners’ insurance and property taxes. That’s the least since 1994, Fed figures show. Since the 18-month recession began in December 2007, household obligations have dropped by 2.37 percent of incomes.

Even consumers still in trouble are in better shape, said Mark Cole, chief operating officer for Atlanta-based CredAbility, which provides nonprofit credit counseling nationally. Clients have an average of $19,500 in unsecured debt this year, down 30 percent from 2009 and the lowest in at least six years. “We really see people’s credit quality is increasing,” he said.

‘Fine’ Cash Flows

Credit-card charge-offs “are collapsing” as companies have written off debt of people unemployed for 27 weeks or longer, who account for about 45 percent of all the jobless, Foran said. “Consumers spend money based on their cash flows, and their cash flows are fine.”

Discover’s rate of 30-day delinquencies was 2.79 percent in the second quarter, the lowest in its 25-year history, company officials said on a June 23 conference call with investors. The nationwide rate fell in May to 3.09 percent, the lowest since May 2007, according to Bloomberg data.

Jennifer Lahotski, 28, who has a marketing job in Los Angeles, said she’s worked to repair her credit from 2007, when it scored “absolutely below 660,” the minimum considered prime for consumer loans, according to Equifax. The Pennsylvania State University alumnus had been late on some bills and had an old charge of $5 from a gym.

‘Sent Them a Check’

“I went through each expense, each delinquency, and sent them a check,” she said. “I turned myself into a hermit for six months but I did it,” she added, eliminating most restaurant meals and “random Target runs where you come out with $50” of merchandise.

Lahotski, who has a Visa and an American Express card and $15,000 in student loans, said she is saving “a few hundred a month,” with plans to buy a house when she can afford a down payment.

Math teacher Busick, 33, who has a home loan and four credit cards, estimates his near-perfect credit score has risen from the upper 700s in the past few years. While he uses an American Express card to accumulate frequent-flier miles on Delta Air Lines Inc., he pays it off in full most months. Busick says he strives to maintain strong credit.

“I don’t have late payments,” he said. “I pay all my bills on time.”

Busick is eying a Sony television or Dell or Hewlett- Packard computer that could cost $2,000.

“If I want something, I will get it,” he says.

Or (and),

With higher gas prices and lower personal income, consumers had to borrow more to buy the same amount. So somewhat lower gas prices might not mean more spending, just less borrowing and some paying down of credit cards

Yes, the federal deficits have largely repaired consumer balance sheets. But a new ‘borrowing to spend’ cycle has not yet emerged, which has been the driver of prior expansions.

The problem is, the prior borrowing to spend cycles were driven by circumstances that no one wants to repeat- the sub prime expansion of a few years ago, the dot com bubble of the late 1990’s, the S and L expansion phase of the 1980’s that drove the Reagan years, the emerging market lending boom of the prior decade, etc. etc. etc.

After Japan’s credit bubble burst in 1991 they’ve been very careful not to repeat that performance, and have stagnated ever since, even with what are considered relatively high levels of govt deficit spending.

My point is, the demand leakages seem to be high enough such that without an extraordinary surge in private sector credit expansion we need a lot higher deficit to close the output gap.

Which to me is a good thing. I’d prefer lower taxes for a given level of public expenditure to another credit bubble. But when govt. doesn’t understand this, and instead looks to reduce the federal deficit, the result is high unemployment and a relatively weak economy, again, much like Japan.