This thought piece provides a broad overview of what comprises consumer debt in the United States and what recent trends have occurred in this space. While student loans have grown exponentially in the last decade, that sector of consumer lending is primarily controlled by the federal government. Conversely, auto loan, credit card, and personal loan terms are dictated by the private sector – and by using traditional FICO stratification, online marketplace lenders have the opportunity to help refinance the $800 billion in outstanding credit card debt.
Consumer credit consists of debt obligations owed directly by individuals, as opposed to debt owed by corporations or government entities. The primary categories of consumer debt are residential mortgages and home equity loans, student loans, auto loans, credit cards and personal loans.
“$11+ trillion outstanding US household debt”
The following chart shows the breakdown of the $11+ trillion total outstanding US household debt:
The Federal Reserve considers core consumer debt to include all categories except mortgages. This debt can be divided into revolving credit – such as credit cards or other lines of credit that a consumer can “roll over” at each month-end – and nonrevolving credit – meaning loans with a fixed term and monthly payment, such as auto loans and personal term loans.
Consumer borrowing fuels consumer spending. As such, the following chart shows that growth in consumer credit is cyclical and typically follows GDP growth:
Aggregate core consumer credit saw a slight deleveraging following the financial crisis of ’08-’09 in every component except student loans. The following chart shows the total consumer credit outstanding by asset class over the last decade:
Student Loans: Dominated by the Public Sector
Total student loan debt has been steadily increasing largely as a result of federal government direct loan programs, as well as programs such as Perkins Loans and Stafford loans. The advent of the direct loan program saw the government shift from simply backstopping student loans offered by private lenders, to actually becoming a lender. Various programs have allowed for widely enhanced student loan availability over the last decade, as well as subsidized and deferred interest payments. The federal government has also recently sought to support existing borrowers by offering consolidation and more flexible payment plans.
The following chart helps put into perspective the recent precipitous rise in student loan debt owned directly by the federal government. The federal government has been the main agent supporting the recent rise in student loan debt, as private finance companies have stepped back from loan origination:
The inventory of debt outstanding has supported the emergence of a private market for student loan refinance. For example, SoFi extends very low interest rate refinance offers to extremely well qualified borrowers, i.e. borrowers at the top end of the FICO spectrum with high incomes.
A further dynamic unique to student loans is that student loans are generally not dischargeable in the event of a personal bankruptcy. This puts student loan debt in a very exclusive category alongside tax debt, child support, and alimony. The inability for borrowers to discharge this debt further decreases downward pressure on aggregate outstanding student loan balances.
Credit Cards: A Cyclical Risk Premium
In contrast with student loans, auto and credit card lending remain fully controlled by the private sector, and as such, underwriting and interest rates remain dictated by market forces, as opposed to government incentives. Credit card debt and personal loans are the major forms of unsecured consumer credit in the United States.
“Auto and credit card…underwriting and interest rates remain dictated by market forces.”
Taking a longer term look at the spread between credit card interest rates and default rates gives a sense of the risk premium available to lenders in the unsecured portion of the consumer credit space:
Unsecured personal loans are nonrevolving instruments, often used to consolidate and refinance high interest rate credit card debt. Many credit card companies have historically offered these term loans either to help refinance debt for their existing borrowers or to grow aggregate assets by encouraging borrowers to consolidate existing debt from multiple lenders.
Like the student loan market, the credit card market has seen major change in the last decade as a result of new federal programs and regulations. By far the most significant is the CARD act of 2009, which includes a series of reforms aimed at making credit card pricing and fees much more transparent to consumers. Other major reforms include limiting the ability of issuers to raise interest rates on existing balances, reducing and placing limits on late fees, eliminating “over limit” fees, and standardizing monthly statements. While these reforms have succeeded in lowering the aggregate fees paid by consumers, credit card issuers have complained that the new rules limit their ability to extend credit to all consumer risk sectors, as well as to effectively adjust to changing risk conditions.
The emergence of online marketplace lenders such as Lending Club and Prosper represents a new model for unsecured consumer lending. These companies generally do not hold the underlying loans on their balance sheets, but rather seek to match borrowers with lenders (both individual and institutional). At present, there is an estimated $15 to $20 billion in outstanding nonrevolving personal loan debt issued by these platforms. The main purpose of these nonrevolving loans thus far has been to refinance debt out of the $800 billion revolving credit card market, leaving plenty of room for theoretical growth.
“The main purpose of these nonrevolving loans thus far has been to refinance debt out of the $800 billion revolving credit card market, leaving plenty of room for theoretical growth.”
Stratification of Consumer Credit
The consumer credit marketplace in the United States is supported heavily by credit ratings. The de facto standard for credit ratings is FICO. Personal FICO scores are calculated by three main credit bureaus – Experian, Equifax, and TransUnion – who collect and monitor borrowing and repayment activity, as provided by lending institutions. A stratification of consumer credit by FICO is shown here:
Alternative lenders like online marketplace platforms continue to explore new and unique ways to underwrite borrowers based on alternative data. However, in the United States, FICO score remains the primary driver of a consumer’s ability to obtain debt or personal financing (and at what cost), even on secured debt such as mortgages.
 Source: 2015 American Household Credit Card Debt Study https://www.nerdwallet.com/blog/credit-card-data/average-credit-card-debt-household/
 See details regarding reforms of the William D. Ford Direct Loan program: http://www.studentdebtrelief.us/forgiveness/obama-student-loan-forgiveness/
 CFPB Card Act Factsheet. http://www.consumerfinance.gov/credit-cards/credit-card-act/feb2011-factsheet/
 Auriemma Consulting Group. http://www.acg.net/wp-content/uploads/2015/06/Ltr_2015-CARD-Act-RFI_MJackson_5_18_15_LB.pdf