Americans are rapidly shrinking their credit card debt during the pandemic

The amount of consumer revolving credit, which is mostly credit cards, plunged by another $24 billion in May, the Federal Reserve said Wednesday. This expensive form of debt is down more than $100 billion since hitting accurate documentation high in February and is currently below $1 trillion for the first-time in not exactly three years.

In many ways, it makes sense that Americans are swiping the plastic less. The health crisis, forced the widespread shutdown of restaurants, bars and professional sports. That was especially true during the March-May period captured by the Fed data.

“Consumers had no choice but to spend less on their credit cards,” Danielle DiMartino Booth, CEO and chief strategist at Quill Intelligence, wrote in an email to customers Thursday.

Not surprisingly, spending at restaurants imploded during the spring when health restrictions made eating out impossible in many areas of the nation.

The seven-day average of spending (including on credit cards) at big chain restaurants was down by as much as 40% in April from the year before, according to Bank of America. That metric has since recovered in June on track levels, Bank of America said.

Mass unemployment, wave of bankruptcies

At the same time, Americans are wisely paying down outstanding credit card balances and avoiding accumulating new debt during this economically tumultuous period.

“Americans are behaving in an eminently rational fashion,” said Joe Brusuelas, chief economist at RSM International.

In just the past few weeks, major companies including Brooks Brothers, Neiman Marcus and Chesapeake Energy (CHK) have all filed for bankruptcy. United Airlines (UAL) announced plans this week to furlough up to 36,000 employees, while Levi Strauss (LEVI) and Harley Davidson (HOG) detailed countless job cuts.
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The unemployment rate surged to 14.7% in April. It has since dipped to 11.1% due to blockbuster job gains, though that unemployment rate is still greater than at any point during the Great Recession.

Given that backdrop, it’s little surprise that Americans are pulling straight back on debt. The March-May period marked the first-time in ten years that over all consumer credit declined for three months in a row, according to Oxford Economics.

However, some forms of debt are showing signs of life. Specifically, the amount of nonrevolving credit, which can be mostly student debt and auto loans, actually rose by $6 billion in May.

Signals consumers are hunkering down

Credit card debt on average carries punishing interest rates — even for borrowers with the strongest credit scores. The undeniable fact that this type of pricey debt is shrinking is encouraging given the economic uncertainty.

However, this trend, along with the surging saving rate, also reflects a broader hunkering down among Americans that’s problematic for an economy that’s two-thirds driven by consumer spending.

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“That’s bad news for the economy,” Brusuelas said. “You want a confident consumer to expense her income. We’re just not seeing that right now.”

Shrinking credit card debt also highlights the unprecedented support being provided by Uncle Sam at this time.

More so than during the onset of the past two recessions, Congress and the White House have taken bold steps to offer emergency relief to house holds and companies via the CARES Act.

Specifically, stimulus checks as high as $1,200 per household were delivered in the spring. And the government is providing $600 of extra weekly unemployment benefits for those who lost their jobs during the pandemic.

Stimulus cliff

Taken together, those emergency moves have lessened the reliance on swiping the plastic.

“The need for credit cards as a smoothing mechanism has been greatly diminished,” according to Booth, the Quill Intelligence CEO. “The credit cycle that would have begun to emerge has been frozen by the CARES Act.”

But the problem is the $600 of enhanced unemployment benefits expires at the end of July. And there’s a heated debate among economists and politicians about whether extending them at the current level — or at all — will discourage Americans to look for new jobs.

What is clear, however, is that letting this benefit lapse will force some unemployed Americans, particularly those in lower-income households, to rely on high priced credit card debt to create ends meet.

That means the recent plunge in credit card debt may possibly prove to be short-lived — but potentially for the wrong reasons.