Credit squeeze leaves borrowers in a bind

[UNITED STATES] Credit application rejections have skyrocketed to record highs, signaling a tightening credit market that's leaving many consumers struggling to access loans and financial products. This trend, revealed by recent data from the Federal Reserve Bank of New York, paints a concerning picture of the current lending landscape and its implications for the average American.

The latest Survey of Consumer Expectations (SCE) Credit Access Survey, conducted by the New York Fed, has unveiled a stark reality: credit is becoming increasingly difficult to obtain across various loan types. The overall rejection rate for credit applications climbed to 21% in 2024, a significant jump from 20.1% in 2023 and well above the pre-pandemic level of 17.6% in 2019.

Breaking Down the Numbers

Let's delve into the specifics of this credit crunch:

Mortgage Applications: The average rejection rate for mortgage applications saw a dramatic increase of 8.6 percentage points, reaching 20.7% in 2024. This is more than double the 2019 rate of 10.2%.

Auto Loans: Rejection rates for auto loans hit 11.4% in 2024, marking the highest level since the survey began in 2013.

Credit Cards: The average rejection rate for credit card applications rose by 0.5 percentage points to 20.2%.

Mortgage Refinancing: Perhaps most alarming, the rejection rate for mortgage refinance applications soared to a series high of 25.6% in 2024, up from 15.5% in 2023.

These figures underscore a broad-based tightening of credit access across multiple sectors of consumer finance.

The Impact on Consumers

The ripple effects of this credit squeeze are being felt across various segments of the population, with some groups hit harder than others.

Low Credit Score Borrowers Bear the Brunt

Consumers with credit scores under 680 are facing particularly steep challenges. This group averaged the highest application rate over the past 12 months at 38.1%, but they were more likely to be rejected than approved. In fact, borrowers in this credit score range are twice as likely as the average consumer to have requested a credit extension.

Discouraged Applicants on the Rise

The survey also revealed a growing sense of discouragement among potential borrowers:

30% of respondents believe they will be rejected if they apply for credit, up from 29% in June 2024.

The average share of respondents too discouraged to apply for credit despite needing it increased to 6% in 2024 from 5.2% in 2023.

A staggering 22.8% of consumers with scores of 680 or below felt discouraged from applying for credit in October 2024, a significant increase from 14.7% in June and 17.1% in October 2023.

The Broader Economic Context

This tightening of credit access is occurring against a backdrop of economic uncertainty and shifting financial behaviors.

Rising Interest Rates and Inflation

The Federal Reserve's efforts to combat inflation through interest rate hikes have contributed to the current credit landscape. Higher borrowing costs have made lenders more cautious, leading to stricter lending standards across the board.

Changing Consumer Behavior

Despite the challenges in accessing credit, consumer demand for loans has remained relatively stable. The average application rate for any kind of credit over the past 12 months was 42.1% in 2024, slightly above the 2023 level of 41.2%. However, this is still below the pre-pandemic 2019 level of 45.8%.

Lender-Initiated Account Closures

Adding to the credit crunch, the proportion of respondents experiencing lender-initiated account closures for any type of credit increased to 7.4% in 2024, a new series high. This suggests that financial institutions are actively managing their risk exposure by reducing credit availability to existing customers.

Expert Insights

Financial experts and economists have weighed in on this concerning trend. Erik Sherman, a Forbes contributor, aptly summarized the situation: "Holy cow, credit application rejections hit record highs." This sentiment captures the shock and concern reverberating through the financial community.

Sherman further elaborates on the implications of these rejection rates: "When people can't get credit, it means they can't make larger purchases, which slows down the economy. It also means they may have more difficulty dealing with emergencies or smoothing out income and expense mismatches."

Looking Ahead: Consumer Expectations and Market Outlook

The SCE Credit Access Survey also provides insights into consumer expectations for future credit access:

The likelihood of future credit applications being rejected is perceived to be higher in 2024 compared to 2023 for credit cards, auto loans, and mortgage refinance applications.

Interestingly, consumers expect slightly lower rejection rates for new mortgage applications and credit limit increase requests.

These expectations suggest that consumers are bracing for a continued tight credit market in the near term, which could influence spending and borrowing behaviors.

Strategies for Navigating the Credit Crunch

In light of these challenges, consumers may need to adopt new strategies to improve their chances of credit approval:

Focus on Credit Score Improvement: With rejection rates particularly high for those with scores under 680, prioritizing credit score improvement can be crucial.

Explore Alternative Lending Options: Peer-to-peer lending platforms or credit unions might offer more flexible terms than traditional banks.

Build Savings: Increasing emergency savings can reduce reliance on credit for unexpected expenses.

Seek Financial Counseling: Professional advice can help in developing a plan to improve creditworthiness and manage existing debts.

The Bigger Picture: Economic Implications

The tightening credit market has broader implications for the U.S. economy:

Consumer Spending: Reduced access to credit could lead to a slowdown in consumer spending, a key driver of economic growth.

Housing Market: Higher rejection rates for mortgages and refinancing could cool the housing market further.

Auto Industry: With auto loan rejections at record highs, the automotive sector might face challenges in sales and growth.

The record-high credit application rejection rates signal a significant shift in the lending landscape. As consumers face increased challenges in accessing credit, it's clear that we're entering a new era of financial caution and scrutiny.

For individuals, this means being more strategic about credit applications, focusing on improving creditworthiness, and possibly exploring alternative financial solutions. For the broader economy, these trends could lead to a period of adjustment as both consumers and lenders navigate this new reality.

As we move forward, monitoring these trends will be crucial for understanding the evolving financial landscape and its impact on both individual financial health and the overall economy. The credit crunch of 2024 may well be remembered as a pivotal moment in shaping future lending practices and consumer financial behaviors.