At the end of September, 2009, unemployment rates hit 9.8 percent, their highest levels since June 1983. Since the official onset of the current recession in December 2007, the number of unemployed has almost doubled from 7.6 million to 15.1 million, according to the U.S. Labor Department.
The unexpected high unemployment rates quenched hopes of a quick recovery from one of the worst economic recessions to hit the U.S. in 70 years. While the layoff rate has moderated slightly from earlier this year, companies are still not hiring on a wide scale. Indeed, some analysts believe that we will have to wait a while for the economy to show any real signs of recovery.
According to analyst Meredith Whitney, CEO of Meredith Whitney Advisory Group, credit markets are still contracting, and this is a strong indication that the economic crisis is continuing unabated. While large, established companies have little trouble getting the lines of credit they need, Whitney notes in an editorial in The Wall Street Journal, access to credit continues to be limited for both consumers and small businesses alike. Contracting credit markets, as most will recall, was one of the main factors causing the subprime mortgage debacle to snowball into the credit crisis that spurred the current recession.
Credit card line cuts, surprisingly, have become a contributing factor to the continued credit crunch felt by consumers in general and small business in particular. Credit card companies have scaled back the outstanding credit lines by more than $1.25 trillion over the last year and closed 10% of all credit card accounts. According to Whitney, another $1.5 trillion of credit card lines is likely to be cut by the end of 2010, as both major credit card companies as well the largest subprime credit card lenders take steps to decrease their credit risk. This is affecting consumer spending and even more so, the health of the country’s small businesses.
Small businesses primarily fund themselves through credit cards and loans from local lenders; more than eight out of ten small businesses use credit cards as a major source of liquidity. Unfortunately, small business credit cards are particularly hard hit; credit lines on small business credit cards have been cut by 25% over just the last twelve months. And the terms for the remaining credit lines have tightened drastically for 79% of small business owners. Other key funding sources for start-up businesses, such as home equity loans, are equally hard to come by in a housing environment where 32% of home owners have seen the value of their homes go down to less than the mortgage they carry on their home.
Shrinking credit card lines and continued limited access to credit affect the twin engines of the U.S. economy: consumer spending and small business growth. Small businesses employ 50% of the workforce and contribute more than one third of the GDP. In an environment where small businesses no longer have access to their traditional main sources of credit, small business growth is hampered, and more end up going out of business.
Some analysts blame the new laws passed with the Credit CARD Act of 2009 for having worsened access to credit, as credit card companies have raced to tighten terms before the new provisions step into effect. Certainly, there can be no doubt that card issuers have increased interest rates for consumer and small business cards alike in advance of the new provisions curbing their ability to do so. However, it’s questionable that the extensive credit line cuts are spurred by the credit card reform. These more likely are part of a normal pullback after a period of excessive credit card lending, similar to that seen in the subprime mortgage market.
