In the past 25 years, Americans have kept shopping through good times and bad.
In every quarter except one since 1981, consumer spending rose over the previous year, adjusted for inflation. The main fuel for the spending was easy access to credit. Banks and other financial institutions were willing to lend households ever increasing amounts of money. Loans to consumers were viewed as low-risk and profitable.
Economists have been complaining about excessive borrowing and spending since the early 1980s. But no matter how many times economists predicted the demise of the consumer, the spending continued. The latest data from the Bureau of Economic Analysis show that the personal savings rate---the share of income left after consumption---fell from 12% in 1981 to just over zero today. And debt service, which is the share of income going to principal and interest on debt, kept rising.
The subprime crisis marks the beginning of the end for the long consumer borrow-and-buy boom. Standards for real estate lending have been raised. Credit cards are still widely available, bit it is only a matter of time before issuers get tougher. Research by economist Carroll suggests that every $1 decline in house prices lops about $.09 off of spending. That accords well with calculations by BEA economists. They figure that households took out $340 billion in cash from mortgage and home-equity financing in 2006. That source of funding could largely disappear over the next couple of years.
What comes next could be scary. Reduced access to credit will combine with falling real estate values to hit poor and rich alike. "We're in uncharted territory," says David Rosenberg, chief North American economist at Merrill Lynch, who's forecasting a mild drop in consumer spending in the first half of 2008. "It's pretty rare we go through such a pronounced tightening in credit standards."
Source: BusinessWeek, November 26, 2007