The battle for consumer lending: Are community financial institutions ready?

A study conducted by McKinsey & Company at the beginning of May indicated that 41 percent of U.S. consumers had seen a drop in income because of the COVID-19 pandemic. That is nearly half of the population struggling to pay for simple everyday expenses.

In this environment, consumers are scaling back on discretionary expenses, particularly for high-ticket items such as automobiles. As the future unfolds, financial institutions could be vying for a dwindling pool of high-quality loans at a time when many are minding liquidity barriers and tightening up credit standards.

How community banks and credit unions will fare in this new market will depend largely on the strength of their digital capabilities.

Banks Begin to Cut Consumer Access to Credit in Wake of the Pandemic

In the U.S., consumer spending shrank by more than $233 billion in the first quarter of this year compared to the fourth quarter of 2019.ⁱ  High ticket items, such as travel, new vehicle purchases and home appliances in particular have been hard hit.

Since consumers often use personal loans or credit cards to secure higher ticket items like these, this type of rapid change to consumer spending has an immediate impact on financial institutions, as demand for lending drops.

An early report issued by the Consumer Financial Protection Bureau’s Consumer Credit Panel in April, indicated that auto loan inquiries had dropped 52 percent in March and revolving credit card inquiries fell by 40 percent.ⁱⁱ 

However, while an uncertain future is changing the way Americans spend, many are clinging to debt as a lifeline in a jobless economy. Over half of consumers expect the financial fallout of the COVID-19 pandemic to impact household finances for more than 4 months,ⁱⁱⁱ  and three in 10 cardholders report using credit cards more than ever during the COVID-19 crisis.^iv 

In response, several large banks have seen fit to pull back on consumer lending during the COVID-19 crisis. A survey conducted by the federal reserve board indicates that 16 percent of banks are battening down the hatches on auto loans.^v  Four in 10 banks have tightened credit card standards, mainly by cutting limits and increasing the minimum credit score.^vi

However, credit unions and community banks should not naturally assume there is an opportunity to seize a larger chunk of the shrinking pie just because the biggest banks are tightening the belt on lending. Meeting the demands of a future laced with uncertainty will require some savvy digital capabilities to protect bank liquidity while still meeting customer and member needs.

Minding the Liquidity Barrier and Priming for Future Success

The COVID-19 crisis represents a level of unprecedented volatility for consumer banks. Even the best medical experts are unsure of the impacts to public health and whether future social distancing and business closures will be necessary. With so many unknown parameters, community banks and credit unions will need to manage liquidity well if they are going to be of help to customers and members now and in the future.

Recent guidance from the OCC encourages financial institutions to use capital and liquidity buffers to respond to the COVID-19 financial crisis,^vii  but banks and credit unions know all too well that these steps must be tread lightly. While community banks and credit unions have the added agility to base lending decisions on regional factors, frequent changes to guidance by regulating authorities, combined with the current uncertainty about the path of COVID-19, make it difficult to assess risk and arrive at safe conclusions.

Identifying at-risk customer and member segments is one way financial institutions are coping. Continued monitoring can then provide early detection of borrowers and card holders who are late on payments or likely to become delinquent in the future. Financial institutions can then decide how to help the customer while also gaining the advantage of greater insight as they press closer to liquidity barriers.

Of course, manually assessing the thousands of data points necessary to arrive at conclusions would take more time than financial institutions have in the rapidly evolving environment. Analytics and digital tools to assess risk now become essential as community banks and credit unions identify and protect new liquidity buffers.

Analytics will also help credit unions and community banks to identify opportunities. While many households are suffering job loss or decreased income, fifty-two percent of consumers are still experiencing financial stability, despite the viral crisis.^viii  Seven percent of consumers have even watched their income rise.^ix 

For these households, now is the perfect time to make some larger purchases, since lower prices and even incentives are being offered on high ticket items, such as autos.

Since consumers will gravitate toward the financial institution offering the simplest path to financing, credit unions and community banks could see loan volumes dwindle without strong digital tools.

Meeting lending needs during social distancing mandates, or simply catering to consumer preferences, calls for a fully digital lending process, incorporating online applications, electronic signatures and remote notary services.

Of course, protecting employee health is also important. Cloud-based solutions provide loan officers with the means to securely access customer information and lending processes from remote locations. Capabilities like these protect the financial institution’s workforce while permitting business as usual.

Fortunately, the smaller size of community banks and credit unions make it possible to quickly roll out digital solutions, often in a matter of hours or a few days. Ensuring an environment that is ready to meet the future changes of the COVID-19 environment is the first step toward long-term success as community banks and credit unions continue to support their local regions.

_{ⁱ  “United States Consumer Spending 1950-2020 Data | 2021-2022 Forecast | Historical.” Trading Economics. Retrieved from: https://tradingeconomics.com/united-states/consumer-spending, Jun. 4, 2020.
ⁱⁱ  “The Early Effects of the COVID-19 Pandemic on Credit Applications.” Consumer Financial Protection Bureau, April, 2020. Web.
ⁱⁱⁱ  “Consumer Sentiment Evolves as the Next “Normal” Approaches.” McKinsey & Company, May 12, 2020. Web.
^iv  “Nearly 50 Million Cardholders Had Credit Limits Reduced, Card Closed Involuntarily in Last Month due to COVID-19 Impact.” Cision. CompareCards Press Release, May 4, 2020. Web.
^v  “Fed Survey: Coronavirus Pandemic Weakens Demand for CRE, Consumer Debt.” American Banking Journal, May 4, 2020. Web.
^vi  Ibid.
^vii  “Q&As on Statement Regarding the Use of Capital and Liquidity Buffers.” Office of the Comptroller of the Currency. Retrieved from: https://www.occ.gov/news-issuances/bulletins/2020/bulletin-2020-17a.pdf.
^viii  “Consumer Sentiment Evolves as the Next “Normal” Approaches.” McKinsey & Company, May 12, 2020. Web.
^ix  Ibid.}