When people borrow there is an expectation on both the part of the borrower and lender that the money will be repaid. Unfortunately, circumstances do arise that cause people to become delinquent on the loans that they have outstanding.
Normally when looking at delinquency trends they will rise during recessions, and then start to fall back, as the economy improves. This is largely due to the fact that when more people are working, they are less likely to fall behind on their payments.
There are four major categories of household debt. These are: mortgage including home equity, auto, credit cards, and student loans. Interestingly these categories are exhibiting different patterns.
For debt that is not secured one would expect to see higher delinquency trends. Credit cards and student loans fall into the unsecured category. Auto and mortgages are secured by the underlying asset, so these categories would tend to have lower delinquency trends.
Between auto and real estate loans one would normally expect to see auto loans with a higher delinquency rate. That is because autos depreciate in value, and a borrower may be in a situation where his/her loan outstanding is greater than the value of the car.
Looking at data since 2003 the delinquency pattern between auto and mortgage loans has varied significantly. Up until 2006 delinquency trends for mortgages were significantly lower than for auto loans. However, by 2007 that trend shifted and delinquencies became greater for mortgages versus autos. That trend stayed in place until 2014 and finally now delinquency trends on mortgages are below auto loans.
Essentially there were two things that happened to cause delinquency trends for mortgages to spike in a major manner. One was extremely lax mortgage lending standards in the 2004 through 2006 period. The other was a major decline in real estate values after 2006. When real estate values are good people who cannot make payments will normally sell their house, so it will not fall into foreclosure compared to when prices are falling.
Looking at credit card delinquencies one sees a normal pattern. When the economy was fairly stable from 2003 through 2007 delinquency trends were little changed. They then increased during the past recession, and have fallen back in recent years, as the economy has improved.
For student loans delinquency trends have not followed a normal pattern related to the economy. Since 2003 delinquency trends have increased on almost a continuous pattern, and have not come down in recent years like other loans. For example in 2003 about 9% of credit card loans were delinquent versus 8% now. For student loans in 2003 approximately 6% were delinquent, and that rate has risen to 11% currently.
There are several factors to account for this trend in delinquencies. The cost of college has been increasing at a significantly faster rate versus income growth. Many students start college, but don’t finish and are left with burdensome debts. Also, among those who graduate significant numbers have low paying jobs, and are having difficulty meeting their debt obligations.
What is tricky for many students contemplating college is looking at the wide disparity in earnings between high school versus college graduates. Looking at those numbers it becomes easy for some to believe that incurring the expenses of college is a worthwhile investment given a lifetime of significantly higher future earnings.
The problem is that those who start college have a wide range of ultimate outcomes, so just looking at averages won’t necessarily imply if enrolling in college is a smart decision. For someone who struggled to graduate from high school the benefits of college will likely be significantly different compared to a top student. For the struggling student obtaining vocational training at a junior college could be a better alternative.
With respect to other loans consumers need to be prudent to how much debt they undertake. Just because debt is available does not mean it should be used. Lending standards for auto loans have become somewhat easier in recent years, but I would advise against taking out a 7-year auto loan to afford a more expensive vehicle. The best way to avoid delinquency problems in the future is to carefully manage debt, so if problems arise you can still meet your obligations.
