With no chance of forgiveness in the near future, expect borrowers to cut back on spending this year.
I got pretty lucky—I graduated college in May of 2019, which meant that I only had to make a handful of student loan payments before COVID hit. Starting March of 2020, every last dollar of my student loans was automatically placed into forbearance.
My loans, along with the loans of 43 million other Americans, were frozen in time for over 3 years, neither accruing interest nor requiring monthly payments. But federal COVID-related forbearance is set to end after August, and around 1 in 5 US adults will have to start making payments again this fall.
Many borrowers were also anxiously awaiting the fate of the Biden administration’s effort to forgive $10,000 in debt, but their hopes were dashed when the Supreme Court struck down the plan in June. With debt cancellation axed, millions of borrowers will have to adjust their spending habits to accommodate a new minimum payment each month.
1 in 5 American adults has student loan debt.
Student loans represent the second-largest source of consumer debt after mortgages, and total more than the combined car debt of every American. The overwhelming majority of student loan debt is federal, so most borrowers were eligible for COVID-related forbearance immediately.
According to the US Department of Education, the average monthly student loan payment is around $400, though this number is likely skewed by a relatively small number of borrowers with a large amount of debt. But for simplicity’s sake, let’s do a quick thought experiment on what kind of savings that entails:
The average student loan payment is $400/month – around $5K in savings each year for 3 years.
A borrower with an average student loan payment of $400/month would have saved around $5000/year if they didn’t make a single payment. Double that to $10,000/year for a couple where both partners have student loan debt (a common scenario – think about how many couples meet in school).
That’s a huge boost to household income, and we saw that in the data. Consumers were able to amass huge savings during the forbearance period, supported further by 3 stimulus checks and a lack of places to spend their money during the height of the pandemic. So-called “excess” consumer savings piled up quickly and peaked around $2.3 trillion.
Savings due to student loan forbearance helped fuel the post-COVID economic recovery.
But “excess saving” gradually turned into “excess spending.” Spending returned with a vengeance in 2021, and we estimate that consumers have spent around $1.5 trillion more than we would have expected since then.
Consumer spending, which accounts for around 70% of GDP, supported the remarkable recovery of the US economy post-2020. Record consumer expenditures have helped the labor market grow by hundreds of thousands of jobs each month, despite the Federal Reserve’s best efforts to cool down the economy.
The resumption of student loans will be a headwind to consumer spending later this year.
Student loan forbearance certainly helped some first-time homebuyers save up a down payment during 2020 and 2021, before the rise in mortgage rates priced them out again. However, a wave of homeowner distress seems unlikely as payments resume, since lenders have consistently been factoring estimated monthly payments into debt-to-income calculations even during forbearance. Nobody got a risky mortgage on the basis of having student loans paused.
Ultimately, the most likely tangible impact of the return of student loan payments will be felt in discretionary spending categories. With an extra few hundred dollars in monthly obligations, it is easy to imagine a world in which some of the 43 million borrowers take fewer vacations, go out to fewer restaurants, or start buying cheaper groceries.
Major retailers like Costco and Walmart have already called out shifts in consumer spending habits on their earnings calls, noting a shift down to substitute goods (like buying chicken instead of beef). We expect this would be compounded by the addition of student loan payments into consumer budgets.
Housing is also likely to feel the downstream impact of the return of payments. Student loan debt is cited by buyers and builders alike as one of the primary obstacles to homeownership, so the end of forbearance is likely to chip away at entry-level housing demand.
Conclusion
As student loan payments resume, less consumer spending is positive from an inflationary standpoint, and may even give the Fed reason to cut rates soon rather than later. But a rapid decrease in consumer spending would undoubtedly increase the risk of a recession that many Americans believe is just around the corner.
