Consumer debt is what you owe, as opposed to what a business or the government owes. It's also called consumer credit. It can be borrowed from a bank, a credit union, and the federal government.

There are two types of consumer debt: credit cards (revolving) and fixed-payment loans (non-revolving).

Credit card debt is called revolving because it's meant to be paid off each month. They incur variable interest rates that are pegged to Libor.

Non-revolving debt isn't paid off each month. Instead, these loans are usually held for the life of the underlying asset. Borrowers can choose between loans with either fixed interest rates or variable rates. Most non-revolving debt is auto loans or school loans.

Although home mortgages are also an enormous loan, they aren't a type of consumer debt. Instead, they are personal investments in residential real estate.

Statistics

In July 2020, U.S. consumer debt rose by 3.6% to $4.1 trillion.﻿﻿ That's after falling 18.7% in April and 4.2% in March. Consumer debt had hit a record of $4.2 trillion in February.

Debt, along with consumer spending, has fallen dramatically in response to the COVID-19 pandemic.

Consumer debt has two components: revolving and non-revolving debt.

Revolving debt is credit card debt. In July, it fell 0.4% to $995 billion. In April it had fallen by 65.3%, and 29.1% in March.

Credit card debt set a record of $1.099 trillion in February. That was higher than the previous record of $1.028 trillion set in 2008. The difference was that credit card debt in February was only 25% of total debt compared to 38% of total debt in 2008.

Non-revolving debt includes loans, mostly education and auto loans. In July, it increased by 4.8% to $3.14 trillion. In June 2020, school debt totaled $1.677 trillion and auto loans were $1.199 trillion (most recent statistics available).

The Federal Reserve has reported on consumer debt each month since January 1943.﻿﻿

Why Americans Are in So Much Debt

There are three reasons why debt has been so high. They are high credit card debt, an increase in auto loans, and more school loans.

Credit Card Debt

Credit card debt rose due to the Bankruptcy Protection Act of 2005. The Act made it harder for people to file for bankruptcy. As a result, they turned to credit cards in a desperate attempt to pay their bills. Credit card debt reached its record at that time of $1.028 trillion in July 2008.﻿﻿ That was an average of $8,640 per household. Most of this debt was to cover unexpected medical bills.

The recession curtailed credit card debt. It fell more than 10% in each of the first three months of 2009. During the recession, banks cut back on consumer lending. Then the Dodd-Frank Wall Street Reform Act increased regulations over credit cards. It also created the Consumer Financial Protection Agency to enforce those regulations. In addition, banks tightened credit standards. By April 2011, credit card debt had fallen to a low of $839.6 billion. Despite these decreases, the average American household still owed $7,055 each.

Auto Loans

Auto loans have increased so much because of low-interest rates. People took advantage of the Federal Reserve’s expansive monetary policy. The Fed lowered rates in 2008 to fight the recession. These loans are from three to five years. If the borrower fails to make payments, the bank will usually reclaim the underlying asset.

School Loans

School loans increased during the recession as the unemployed sought to improve their skills.

In 2010, the Affordable Care Act allowed the federal government to take over the student loan program.

The federal government replaced Sallie Mae, the previous administrator. By eliminating the middle-man, the government cut costs and increased the availability of education assistance. It helped boost non-revolving debt from 62% of all consumer debt in 2008 to 74% in 2019.﻿﻿

School loans are for 10 years but some are as long as 25 years. Unlike an auto loan, there is no asset for the bank to use as collateral. For that reason, the federal government guarantees school loans. That allows banks to offer low-interest rates to encourage higher education. The government encourages it because the country benefits from a skilled workforce. It reduces the nation's income inequality and creates a healthy economy.

How Consumer Debt Benefits the Economy

Consumer debt contributes to economic growth. As long as the economy grows, you can pay off this debt more quickly in the future. That's because your education allows you a better-paying job. That creates an upward cycle, boosting the economy even more.

It allows you to furnish your home, pay for education, and get a car without having to save for them. In that way, it supports the American dream.

Disadvantages of Debt

But debt can be devastating. If the economy goes into recession, and you lose your job, you may go into default. That can ruin your credit score, and the ability to take out loans in the future. Even if the economy remains, robust, you can take on too much debt. It's not just because of so-called poor spending habits. It's also a result of unexpected medical bills.

The best way to avoid the disadvantages of credit card debt is to pay it off each month.

In addition, save up six months' worth of spending. That will cushion you if a recession hits, you lose your job, or you face a medical emergency.