Increasing Late Payments on US Loans Linked to Inflated Credit Scores Amid the Pandemic

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US borrowers who took on new debt in the midst of the pandemic are struggling to make repayments at an unprecedented rate. Lenders extended more credit to households aided by government stimulus.

Federal programs provided cash and temporarily suspended certain loan repayment requirements for US consumers affected by the economic shock of Covid-19.

One result was a 20% increase in the median consumer credit score, peaking at 676 in Q1 2021, according to a report by TransUnion, a credit reporting agency. A credit score above 670 is considered “good”.

Lenders became more willing to provide consumer credit, with credit card and unsecured loan originations rising by over 50% between 2020 and 2022, as per TransUnion.

Data reveals that borrowers who acquired loans in 2021, 2022, and early 2023 are facing an unusually difficult time staying current on those debts.

“Consumer finance companies used this opportunity to accelerate their growth when funding was abundant and consumers’ finances received an artificial boost,” said Mark Zandi, chief economist of Moody’s Analytics. “Many lower-income households caught up in this will experience financial hardship.”

For credit card accounts opened in Q1 of this year, the delinquency rate reached 4% in September. In September 2022, the nine-month delinquency rate for new accounts was 4.5%. These levels were the highest for the same period since 2008, according to Moody’s Analytics data.

“The performance of consumers with older credit cards is returning to pre-Covid levels, but for new credit cards, the delinquencies are surpassing those of 2018 and 2019,” said Rikard Bandebo, chief product officer of credit scoring company VantageScore. A study by VantageScore found that credit cards issued in March 2022 had higher delinquency rates than cards issued during the same time in the past four years.

Data from S&P’s Global Ratings shows that riskier car loans made during the peak of the pandemic are experiencing more repayment problems compared to previous years. Last year, borrowers with subprime credit were defaulting on new car loans at twice the pre-pandemic rate.

“We know that lenders were rather aggressive during that period,” said Amy Martin, an auto loans tracker for S&P. “The 2022 loans are definitely worse than previous years.”

US banks reporting earnings in the past week have increased provisions for loan losses as delinquency rates rise. Bank executives have attributed this trend to a “normalization,” returning delinquency rates to pre-pandemic levels.

Bill Moreland, researcher at BankRegData, who has cautioned about rising delinquencies, estimated that by late last year, there had been hundreds of billions of dollars in “excess lending based upon artificially inflated credit scores”.

The higher delinquency rates provoke concerns that government assistance implemented to alleviate financial stress from lockdowns may have led some consumers into financial difficulties.

The Cares Act, a $2.2tn federal aid package passed at the beginning of the pandemic, was among the programs that provided financial relief to consumers. In addition to direct aid, measures were implemented to protect borrowers from foreclosures and other defaults. In many cases, lenders were prohibited from reporting late payments to credit bureaus.

“I do think the Cares Act was good policy,” said Pam Foohey, a consumer bankruptcies researcher at Yeshiva University Law School. “I blame lenders and the market structure for not having a longer-term perspective. It’s not something that the Cares Act should have resolved, and it still exists and needs to be addressed.”