Credit contagion infects your wallet

There are other explanations for some of these numbers. For example, Capital One Financial adopted a new credit model to use in originating its auto loans in the prime market. It turns out, the company said, that the model didn't work as well as expected and resulted in higher losses. The company has moved to implement second- and third-generation models to fix the problem. This is also the toughest season for auto loans; most years see a seasonal rise in delinquencies during this quarter. And finally, rising industrywide delinquency and default rates are, to some degree, a return to normal after atypical lows following the rush to bankruptcy caused by a change in bankruptcy laws that took effect in October 2005, which cleared a lot of bad debt out of lenders' portfolios.

But taken together, with evidence of rising delinquency and default rates coming from so many different lenders operating so many different business models in so many different markets, the possibility that we're seeing the troubles that borrowers are facing with their mortgages spill over into problems with credit cards and auto loans is disquieting.

These problems could indeed slow the economy in 2008 more than investors now believe is likely.

The biggest danger, though, doesn't come from the consumers running behind on their credit cards and their auto loans. With delinquency rates still below 5% at a credit card company like Capital One, reduced spending by consumers with credit problems probably isn't enough to tank the economy.

A crisis for credit cards

It's the folks in good shape that the economy has got to watch out for. If consumers who are in good shape decide to cut back on spending in order to reduce their credit card balances, that would take a considerable amount of spending out of the economy. There is some evidence that this has started to happen. Repayment rates are running about 1 percentage point above their long-term average, according to Bankstocks.com. And credit card utilization rates -- the amount of available credit that consumers actually use -- are near 15-year lows.

The banks aren't helping the situation. Certainly, you understand why a bank that's been burned by higher-than-expected mortgage default rates would think first about cutting back on mortgage lending. It's too little, too late, but the impulse is almost irresistible. In the mortgage market, lenders have lowered the amount they'll let consumers borrow against their homes, done away with teaser rates and no-income-verification loans and raised the credit scores they require to approve a loan. The result is a credit crunch where people who want to borrow today can't -- even though they meet the lending standards in effect just yesterday -- because lenders have stopped lending.

Something similar may be brewing in the credit card market. Through the first six months of 2007, direct-mail offers to consumers with the best credit have dropped by 13%, according to Mintel International. (On the other hand, offers to consumers who are in danger of defaulting on their home loans have actually climbed by 41% in the same period.)

At the same time as they're sending out fewer card offers to the best prospects, banks have been increasing the rates they charge on cards:

• Regular monthly interest rates are going up.

• Penalty interest rates are going up -- to as much as 34% in some states -- for cardholders who make even one late payment.

• More cards are adding a universal penalty clause where missing a payment on one card you hold can trigger a rate increase on all your other cards.

• Late fees have zoomed and so have over-limit fees.

• Grace periods that allow you to pay before interest charges kick in are getting shorter.

• It's harder to get a credit card company to raise a credit limit on an existing card, and new card offers come with lower initial credit limits.

Most of those changes, in my opinion, are simply attempts by banks and other credit card issuers to pull in more revenue from cardholders to offset the squeeze on their profits that results from putting more money into loan-loss reserves. They don't intend to create a credit crunch.

But by lowering credit limits and by making it more expensive and more aggravating to use a credit card, the result is still the same. We're witnessing the very early stages of a classic credit crunch in the credit card market.

It's too early to tell if the crunch will get crunchy enough to take a percentage point or two out of the 1.9% growth rate projected for the U.S. economy in 2008. But in this part of the debt market -- as in so many others from mortgages to buyout loans -- the trend is clearly toward less available and more expensive credit. That's never a recipe for faster economic growth.

Continued: Updates and developments

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