Are we heading for a new consumer debt crisis following the COVID-19 pandemic?

Are we heading for a new consumer debt crisis following the COVID-19 pandemic?

Mark Beresford
July 2, 2020

The World Bank has warned that the coronavirus pandemic has triggered the most widespread global economic meltdown since at least 1870 and risks fuelling a dramatic rise in poverty levels around the globe.

As many as 90% of the 183 economies the World Bank examined are expected to suffer from falling levels of gross domestic product (GDP) in 2020, even more than the 85% of nations suffering from recession during the Great Depression of the 1930s.

Edgar, Dunn & Company (EDC) has a working hypothesis that there will be a larger increase in total consumer debt – both in North America and in Europe.  In order to test this hypothesis and assess whether we are actually heading for a new financial crisis of crippling consumer debt, EDC and integrated communications agency Four Communications (Four) have joined forces to leverage Four’s proprietary insights methodology -  Mapper360®.  This tool uses real-time open source and digital data for actionable insights and to understand what matters most and now to key stakeholder and customer audiences across the globe.

As businesses start to re-open following the lockdown and global economies find their way in the ‘new normal’, marketers need better insight to deliver the right message, about the most appropriate products, services and advice, to the right customers.  Understanding how your customers have been impacted from the pandemic provides information for the type of financial products and services they might be interested in and the types of channels and messaging they are most likely to respond to.

Consumer Segmentation

Emerging from the lockdown, there are three main segments of customers.  The first segment consists of customers that have been able to remain employed and continue to work from home.  This segment belongs to the group that the Bank of England recently described as being able to repay £7.4billion of consumer credit in April, double the repayment in March, which itself was a record repayment.  Lack of holidays, lack of commuting and with a shift in spending to essential items only, has meant that many households have been able to redirect available funds and repay their credit card debts and other unsecured loans.  According to leading travel and entertainment (T&E) card issuers, cardholders’ spending stabilised in April at levels more than 20% below the pre-crisis norm.

The second customer segment is the group that was furloughed and saw a drastic fall in their household income.  This segment has to keep an eye out on their outgoings, ensure their household bills are covered and budget diligently.  The need to take a mortgage payment holiday or skip one or two full payments of their credit card balance would be predictable behaviour by this segment.  Figures from UK Finance published at the end of May 2020 found there had been almost 878,000 payment holidays taken out on credit cards by 21 May and 608,000 on personal loans.  An exceptionally high number.

The third and final segment of customers were made unemployed as a direct result of the pandemic forcing businesses to shut down or go into bankruptcy.  This third segment are the financially challenged.  In April 2020, the second month after COVID-19 containment measures were implemented by most EU Member States, the seasonally adjusted unemployment rate was 7.3%, up from 6.5% in February 2020 (pre-lockdown).  The EU unemployment rate was 6.6% in April 2020, up from 6.4% in March 2020.In the UK, the unemployment rate is 3.9% - an increase of 0.1%.  The Office of National Statistics (ONS) showed that the number of people claiming unemployment benefit in the UK has risen to 2.1 million in April, the first full month of the coronavirus lockdown.  In Europe, unemployment could double in the coming months, with millions of jobs at risk from permanent cutbacks as well as reductions in pay and hours because of the coronavirus pandemic.  The European Commission expects the EU to go into a deep recession this year.

The situation in the US has yet to fully unfold.  The total household debt, for example, increased $155 billion, or 1.1%, in the first quarter this year, according to a new report from the Federal Reserve Bank of New York.  However, this data point only covers the time period up to the end of March 2020, therefore not fully showing the impact of the COVID-19 pandemic yet.

Greater access to credit – from traditional credit cards to alternative lenders

What does this mean for consumer lending in the post-pandemic world? Pre-crisis, we had seen a growth of instalment payments and buy-now, pay-later options appearing across a wide range of retail sectors, from fashion, travel, to big ticket household products. This was partially as a result of readily available credit to consumers.  Companies such as Klarna, Affirm and Afterpay, are some of the leading players in this space.  The following graphic only illustrates a sample of the companies that allows consumers to buy goods or services from merchants and pay off those purchases in fixed monthly payments over longer periods.  The benefit of using one of these payment options is they don't always charge late fees, service fees, prepayment fees, or any other hidden fees.  On the other hand, some providers will charge a fee if a payment is late or a repayment is missed. The APR, loan interest rates range from 10% to 30%.

Providers, such as Afterpay and Klarna, are touted as a new way to pay and different from traditional credit products, such as a credit card.  This is particularly appealing to younger consumers who don’t have or want a credit card.  By selecting these payment methods, the consumer has a set period to pay back the amount in three to four instalments, with no interest.  Costs only incur if the consumer fails to make repayments on time.  Some of these providers, including Afterpay, do not check the credit history before the consumer applies, but it still reserves the right to report defaults to credit reporting bureaus such as Experian or Equifax.

Another example of a buy-now-pay-later service has come from Apple.  When the coronavirus pandemic started to impact the US economy in March this year, Apple, with its card issuing partner, Goldman Sachs, decided to defer payments on the cards to help customers struggling due to job losses and the economic instability.  Most recently, Apple has announced that it is preparing to allow customers to buy many of its products, including iPads, Macs and AirPods, over monthly instalments via the Apple Card credit card.  The service is also designed to encourage enrolment for the Apple Card and boost sales of Apple products by letting users split up the cost over time.

For merchants, struggling to encourage shoppers out of lockdown and into their stores and to spend what they may not have, extending consumer credit is an interesting proposition, allowing for sales to drop straight to the bottom line whilst effectively outsourcing the debt to third party specialist providers.

What about credit cards?

EDC has modelled the impact that lockdowns, furlough schemes and rising unemployment had on the average values revolved on credit cards across the major European markets.  Credit cards are the unsecured lending instruments which are very different compared with the alternative instalment products.  The graphic below is the average revolving credit (i.e. the amount not paid at the end of the statement period).

This graph[1] illustrates the results of the modelling and the impact of coronavirus on 10 European markets, using the adjusted GDP forecasts from the European Commission, and categorised them into ‘high impact markets’ (comprising of Italy, Spain, UK and France), ‘medium impact markets’ (comprising of Ireland, the Netherlands and Germany) and ‘low impact markets’ (comprising of Sweden, Norway and Poland). Each category has a different ‘COVID factor’ assigned, which is used to forecast the increase in the value of credit revolved.

Prior to the coronavirus crisis, the average value of credit revolved per credit card was gradually increasing across Europe. All leading European markets have shown a rapid increase in the value of credit revolved since the coronavirus outbreak. Reduced disposable income of many individuals who have been furloughed or unemployed, and payment holidays taken on credit cards and loans, may have shifted some household spending to credit cards. Countries with a lower average revolving credit before the pandemic are expected to experience less change in consumer behaviour, as shown by Italy, Spain and Germany. Sweden was one of the few markets that did not implement strict lockdowns during the pandemic, with most businesses operating normally. Fewer consumers in Sweden have become unemployed or been put on a furlough scheme and this has proven to be an exception in this sample of markets.

Social Mapping

Four used its Mapper360® benchmark and social listening service to support this analysis of this potential debt crisis. Four was able to look at the volumes of relevant conversations across social media platforms and observed the changes in attitude and sentiment pre-COVID (2019) and post-March 2020 audiences who discussed applying for credit cards or using buy now, pay later products.

When analysing the number of unique authors engaging in the conversation, there was a rise of 68% discussing the topic of consumer credit between March and June 2020 compared to 2019. The following chart illustrates that on average, online conversations around credit applications* have increased by 133% since March, compared to the previous 10 months.

By tracking the leading ‘buy now, pay later’ brand Four was able to show that Christmas shopping drove a peak in engagement with these brands. Excluding this peak, average volumes show there has been a 31% rise in conversations with  these brands since March, as shown below:

Four is able to track a shift in audience segments talking about applying for credit by identifying specific individuals in the UK who are active in the conversation and segment them in ‘tribes’ based on psychographic data such as behaviours, interests and attitudes.

Segmentation makes it possible to see what really matters to key audiences: the catalysts to their conversation, their priorities and their feelings towards brands, topics and news stories.

The largest tribe focused on general consumer offers and finance chat.  There were more writers talking about consumers using credit or consumer rights around financial applications and there was a more active following of and engagement towards retail brands, particularly fashion and beauty products.  These findings are shown below in the social listening maps:

By listening to the shifting patterns of social media conversations Four is able to conclude that there has been a 68% increase of unique authors and a common growth of all tribes.  There was an emergence of one tribe who almost entirely use social media for customer service.  Many were talking about credit type used, credit applications and there was a clear rise in younger contributors.

Striking the balance between operational costs and generating revenue

Edgar, Dunn & Company uses its proprietary methodology called the 360° Payments Diagnostic that assesses the payments strategy of retailers to identify and prioritise cost reduction and revenue enhancement opportunities.  The 360° Payments Diagnostic encourages the smart use of payment information as a valuable tool and is a proven process to reduce operational costs, improve revenues and engage customers across all channels, regardless of their preferred payment method.  By creating a balance between the cost of payment acceptance and generating commission revenue by working with some of the alternative consumer lenders is a precarious balancing trick.

The Mapper360® benchmark and social listening service from Four offers the opportunity to undertake bespoke research into a particular area or subject or analyse shared moods, attitudes, behaviours or interests - all in real-time and at a significantly reduced cost when compared to traditional research. It can be a valuable tool to gain better insights of customer spending habits and behaviour preferences.

Understanding customer spending behaviour and holistically reviewing all the payment acceptance arrangements, regardless of the payment method, and making sure each element of your payment processing partners is working for your unique business requirements is fundamental for any type of merchant.

[1] Source: Edgar, Dunn & Company (EDC)

The content of this article does not reflect the official opinion of Edgar, Dunn & Company. The information and views expressed in this publication belong solely to the author(s).

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