When America shut its economy down last March/April, there was a risk we would have a prolonged period of deep economic decline. Why? The economic shutdown was caused by the pandemic spread of COVID-19, and there is no vaccine nor curing therapeutic. Indeed, initially we were walloped by the COVID-19 recession:
Using history as our guide, a reasonable assumption is that consumer debt delinquencies were going to be quite bad this year. For some context, here are the quarterly unemployment and credit card delinquency numbers for a period spanning the Great Recession (Dec 2007-Jun 2009).
As you see, increasing unemployment is linked with increased credit delinquencies. Delinquencies rose until peaking near the point unemployment plateaued. While unemployment stabilized in the 9.x% range, delinquencies slowly returned to normal over time. Delinquencies clearly ballooned during the Great Recession.
That’s not what we we’ve seen happen with the COVID-19 recession. Acknowledging that it’s still somewhat early in the cycle, see the table below showing the same unemployment and delinquency stats.
Unemployment more than doubled by the end of the second quarter, and was even higher for months within the quarter. Based on what we saw in the Great Recession, surely delinquencies shot up right? Not at all! In fact they dipped from the prior quarter, and are even lower than the same quarter one year ago (2.57% Jun 2019).
This WAS NOT in the playbook for the COVID-19 recession. Delinquencies have remained under control. What gives? Better financial behavior, spurred by favorable actions taken by the federal government and financial institutions. Let’s look at these factors.
#1: Boiling frog vs. a snap to attention
What marked the start of the COVID-19 recession was an all-at-once awareness of the severity of the economic issue. Across the country, state and local governments shut down in-person business. Corporations nationwide had employees work from home. Schools went to distance learning models the remainder of the school year.
Basically, everything shut down. There was no escaping this fact. People were well aware that jobs were going to be lost, and the economy would tank. This knowledge was vital, as people now had a clear call-to-action. They needed to prepare for financial difficulties. A previous blog post showed an example of this preparation. Clicks on collections outsourcing vendor TrueAccord’s emails dropped during the March-April timeframe.
Contrast this stark awareness with what happened during the Great Recession. The decline in the economy was a slower, longer affair. A primary driver was excessive debt, which caused a slow-motion collapse in the economy. It would have taken the American public being attuned to many subtle signals over time to realize how bad things were going to get. They were not, which meant there were not timely adjustments in behavior.
Lesson: When people are made aware of impending consequences to their financial health, they act to help themselves.
#2: Spend within your means
I listened to a webinar put on by dv01, a data and operations platform for consumer lending, titled “Discussion – Six Months Into COVID-19 Pandemic: Impact on Consumer Credit and What’s Ahead“. John Hect, Managing Director of Equity Research and Specialty Finance, Jefferies had an interesting observation related to the cutback in spending:
“Credit card company investors are more concerned about lower interchange revenue than they are about delinquencies.”
In the Great Recession, businesses stayed open. People continued to buy large ticket items, take vacations, buy gifts, eat out, etc. Spending continued as one would expect during a slow-motion recession. In economics terms, the supply side maintained its level, and demand only slowly reduced.
A key feature of the COVID-19 recession is that businesses shut down. Travel was curtailed by safety concerns and quarantines. We all (mostly) are staying at home. It’s Groundhog Day.
It hasn’t been fun. But the reduction in spending (seen in the decline of GDP) has helped millions of households. Without the easy options to spend money, households have cut back on their spending. This both reduces credit card balances and saves money that can be applied to all forms of debt.
Lesson: When circumstances require it, people can endure changes in spending habits. These are changes that can help restore financial health.
#3: Work down your debt
In the Great Recession, there was a stimulus package, the American Recovery and Reinvestment Act (2009). The key provisions were an extension of the eligibility for unemployment benefits, reduction in tax withholding for workers’ paychecks, and increased spending on federal contracts.
These measures helped, but they were not particularly directly targeted at people more broadly. Extended unemployment helped, for instance, but it wasn’t surge of cash for people.
Compare that to the coronavirus stimulus bill passed by Congress and signed by the White House. It included the following:
- $1,200 checks to married couples making under $150,000 annually
- $500 per dependent aged 16 or under
- $600 additional unemployment benefit, on top of the regular state amount
Under normal circumstances, this extra money may end up spent on ‘wants‘. But refer to the #2 lesson above. There really weren’t as many opportunities to spend money. So what did consumers do with this extra money? They paid down their debt!
From that Wall Street Journal article:
“We’re not seeing consumers increase credit-card balances; in fact, they’re continuing to
pay down balances,” said Peter Maynard, senior vice president at Equifax, the credit reporting
firm that tracks consumer borrowing in the U.S., Canada, the U.K. and other
countries. “They’re using the injection of government stimulus, quite frankly, to put
themselves in a better position.”
In the Great Recession, there was no combination of additional cash combined with fewer opportunities to spend it. Consequently, delinquencies increased.
Lesson: Consumers don’t want to stay indebted. When given a chance to reduce their debt, they will do so.
The COVID-19 recession has been a valuable, unintended field experiment in the mass application of smart financial health principles. The good news is that people will exhibit beneficial financial behaviors, given the right circumstances.
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