Time to Bail Out Of Credit Cards? That's One View

In the 1967 film "The Graduate," the Dustin Hoffman character was told to bet his future on plastic. For 1992, maverick economist A. Gary Shilling is warning banks to get out of the stuff that revolving consumer credit is made of. And fast.

"There's going to be blood on the floor in six months" as we get well into the recession's second leg, says Mr. Shilling, who hangs his hat in Springfield, N.J.

He has urged his followers to short the stocks of banks with big credit card exposures and to go long in a few regional institutions, like Wachovia Corp., that have what he calls "fortress balance sheets."

The latter kind of banking companies will survive industry consolidation, buying up pieces of other institutions at giveaway prices, he says.

Mr. Shilling's disciples include more than 500 individual and corporate clients who get his newsletter, plus readers of his columns in Forbes magazine, The Los Angeles Times, and Japan's Nihon Keizai Shimbun.

He has been saying since the early 1980s what Donald Trump came to realize last year: Cash is king. Inflation is dead. And tangibles like real estate are deflating.

Desperate Borrowers

What's the problem with credit cards? The people using them the most are the ones who can least afford to repay, he says.

"They're using the cards because they have no choice," Mr. Shilling argues. And new entrants into the business - like Sears, AT&T, and General Motors, attracted by its historically wide profit margins - are offering these desperate people even more cards.

Mr. Shilling expects that, in the next year, as the recession continues to take a toll on incomes, indebted cardholders will begin defaulting in alarming numbers. From an analysis of Federal Reserve data, he has concluded that, during typical recessions, consumer borrowing seldom slackens as it is doing this time.

"In a normal recession, 80% of the economic decline is in inventories," he says.

Revolving Credit Bucks Trend

All types of consumer borrowing save one - the revolving credit category, which largely consists of credit cards - have declined sharply.

"Those who are able to reduce their debt are reducing it," the economist says. "Those desperate and over their heads in debt are using credit cards."

Consumer borrowing was down $1.5 billion, or 2.5%, in September, mainly because of another sharp drop in auto loans, the Federal Reserve reported Nov. 7. But revolving credit was up $2.4 billion, or 12.6%, after rising an upwardly revised $1.26 billion, or 6.6%, in August.

Trouble in Home Equity

Mr. Shilling is also among the growing number of economists predicting trouble ahead for home equity loans as deflation reduces the market values of residential real estate.

During the 1980s, people's equity in their homes, net of debt, reached 64%. Using home equity loans and second mortgages, however, they have drawn that down to 42%, he says.

Forty percent of homeowners own their properties free and clear, he says, which means that an awful lot of people have "zilch or negative equity."

"So there's a lot of potential for problems here," he says.

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