Consumers cut outstanding credit by record $21.5 billion

WASHINGTON -- Americans cut their outstanding credit by a record $21.5 billion in July, damping hopes that a resurgence in consumer spending will juice the economic recovery.

Consumers slashed their credit at an annualized rate of 10.4% to $2.47 trillion, the Federal Reserve said. It was the sixth-consecutive monthly decline — the longest streak since the second half of 1991.

The drop came despite the government's cash-for-clunkers program, which dramatically boosted summer car sales. The shrinkage in consumer balance sheets also far outpaced economists' estimates for a decrease of about $4 billion.

Wells Fargo analyst Yasmine Kamaruddin partly attributed the larger-than-expected decline to what she anticipates will be a high rate of bank charge-offs in the third quarter as lenders write off auto and other consumer loans as uncollectible.

But consumers are also curbing their spending and paying down debt, and banks are tightening their lending standards amid the worst recession in decades, economists say. Non-revolving credit, such as auto, personal and student loans, fell $15.4 billion, or 11.7% annualized, vs. the previous month, the Fed said. Revolving credit, mainly credit card debt, fell $6.1 billion, or 8% annualized.

The report spotlights a consumer determined to sock away cash and pay down debt following the stock market and real estate crashes. Households have saved about 5% of their income in recent months, vs. less than 1% before the downturn.

Long-term, the trend "puts (consumers) in a healthier financial position" by trimming interest costs and encouraging investments for "future needs like college education and retirement," says John Ryding, chief economist of RDQ Economics.

In the short run, though, "This does not bode well for a significant, sustained rebound in real consumer spending," Steven Wood, chief economist for Insight Economics, said in a report.

RDQ economist Conrad DeQuadros notes consumer spending ticked up 0.2% in July and has risen at an annual rate of 4% the past three months, adding that increased spending and falling credit can co-exist. Consumers, he says, have been emboldened by a stock market rebound since early March and rising wages the past two months.