updated 9/8/2009 7:14:02 PM ET 2009-09-08T23:14:02

Consumers slashed their borrowing in July by the largest amount on record as job losses and uncertainty about the economic recovery prompted Americans to rein in their debt.

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Economists expect consumers will continue to spend less, save more and trim debt to get household finances decimated by the recession into better shape. Such behavior, though, is a recipe for a lethargic revival, because consumer spending accounts for 70 percent of economic activity.

The Federal Reserve reported Tuesday that consumers in July ratcheted back their credit by a larger-than-anticipated $21.6 billion from June, the most on records dating to 1943. Economists had expected credit to drop by $4 billion.

July’s retreat translated into an annualized decline of 10.4 percent. That followed a cut of $15.5 billion in June, or a 7.4 percent annualized drop, and was the most since a 16.3 percent decline in June 1975.

The latest cut still left total consumer credit at $2.47 trillion.

Wary consumers and hard-to-get credit both factor into the scaled-back borrowing. But economists are split on which force — lack of demand by consumers or lack of supply from banks — is having the bigger influence.

“It’s really a tug of war,” said Mark Williams, professor of finance and economics at Boston University and a former Fed bank examiner. “It’s true that consumers are being more responsible, saying ’I don’t really need that extra credit card,’ but it is more related to banks clamping down on lending.”

But Erik Hurst, economics professor at the University of Chicago Booth School of Business, says it is impossible to know for sure. “We are seeing declines in demand for loans from consumers but also declines in the supply of loans from banks. How much of the credit cutback is due to the decline in supply or demand, you can’t really tell.”

Last month, the Federal Reserve, in a survey of bank loan officers, found somewhat weaker demand for all types of consumer loans. But fewer banks reported tightening their standards on credit card and other consumer loans, the Fed survey said.

Still, a report earlier this year by the company that produces the most widely known credit scores found that companies slashed limits for an estimated 58 million card holders in the 12 months ended in April, even though a high percentage had good credit scores when their limits were cut.

The cuts affected about a third of consumers, according to the study by FICO. But most people did not see a big impact on the credit scores because lenders often cut limits on cards that were unused or lightly used.

In Tuesday’s report, demand for non-revolving credit used to finance cars, vacations, education and other things fell by $15.4 billion, also a record decline. That 11.7 percent pace was on top of an 8 percent annualized decline in June.

Consumers’ appetite for revolving credit, primarily credit cards, declined by $6.1 billion in July, an annualized rate of 8 percent that followed a 6.4 percent drop in June.

The magnitude of the drop surprised analysts. Some thought the Cash for Clunkers program — which began in July and aided auto sales and car loans — would have blunted cutbacks in other lending areas.

The Fed’s measure of consumer borrowing does not include debt secured by real estate, such as mortgages or home equity loans.

Even though the unemployment rate dipped in July, it jumped in August to a 26-year high of 9.7 percent. Already, the recession has snatched 6.9 million jobs and unemployment is expected to top 10 percent this year as employers keep cutting.

That will make it harder for Americans to keep up with payments on credit cards and other kinds of loans, analysts said.

“As great as the clunkers program has been, it’s tough to head out and buy a big ticket item when you don’t have a job,” said Richard Yamarone, economist at Argus Research. “Don’t expect consumer credit to increase any time soon; the job situation is dismal, at best.”

Copyright 2009 The Associated Press. All rights reserved. This material may not be published, broadcast, rewritten or redistributed.

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