Debt - The Elephant In the G20 Meeting Room
by John de Roe
Like to elephant in the room it is the huge, embarrassing presence of which everybody is aware but nobody speaks longer speaks. Silence is pointless of course, the problem is not going away just because we pretend to ignore it, we are not dealing with a smelly fart here. Rather than fading away like the smell of an overripe fart this problem can only get worse, and is in fact getting worse each day. Despite this politicians and business leaders encourage us to pretend that the embarrassment doesn'tt exist. When David Cameron tried to raise the issue in his address to the Conservative conference in Manchester, he was nobbled by advisers. The Prime Ministers expunged comments were deemed "unhelpful".
The Treasury, it seems, prefers to avoid the matter because the worst thing that could happen for those who manage our national economies is those affected by the problem starting to do something about it. As for the Opposition, how could it possibly get stuck in without reminding us on whose watch this disaster began?
We are, of course, talking about the obscenity that is the burden of ballooning personal debt in the western nations. For the UK it currently stands at Ł1.5 trillion, a little more than the countrys annual GDP, our national output. This figure should not be confused with the budget deficit (forecast to be Ł122 billion in 2011-12] nor the national debt, which, despite so-called savage public-spending cuts (so far not one penny has been cut, only planned increases in public spending have been reduced), personal debt in the UK is on course to hit Ł1 trillion by the end of the financial year.
Let's be absolutely clear what we are talking about before we move on. Ł1,500,000,000,000 is the amount owed by individuals in the form of mortgages, overdrafts, loans and on credit cards. It is horrifically high, but indicates only where we are, not the direction we are heading in. The full horror of what is happening to household borrowing can be found tucked away on the Office for Budget Responsibility website. The numbers are shocking they point to another looming crisis which, perhaps, explains why no one at Westminster is willing to talk about them.
According to the OBR, UK personal debt will grow by nearly 50 per cent between now and the end of this parliament. Come 2015, it is forecast to reach Ł2.12 trillion pounds. How can this be right? The average British adult already owes Ł29,500, about 123 per cent of average earnings. I thought we were meant to be getting a grip, not letting rip.
Is the OBR expecting a sudden explosion in take-home pay to offset this expansion of household debt? No. As the second Great Depression grinds on experts are expecting real incomes to fall as inflation continues to run ahead of growth. It explains: We forecast that income growth will be constrained by a relatively weak wage response to higher-than-expected inflation. But we expect households to seek to protect their standard of living ... this requires households to borrow throughout the forecast period [2011-2015]. Which is civil service gobbledegook for "The economy is stuffed and you're all going to end up as paupers."
Borrowing to support lifestyles that are desirable but not affordable is where the west's financial nightmare began. If the OBR is correct, we are hurtling towards a second, more threatening phase, with household debts (including mortgages) rising on average from Ł55,800 to Ł81,700 in just four years.
Whats more, we are not going to be rescued by a fresh surge in house prices. Mortgages currently account for about Ł1.25 trillion of personal debt, but the OBR says net worth is forecast to decline as a percentage of income, largely as a result of a relative decline in the value of household assets. House prices are already down 20 per cent from the peak and, according to the Land Registry, continue to fall almost everywhere except London."
British consumers heavy dependence on debt is not a product of the banking crash and subsequent recession. It took root during the Great Delusion, 1997-2007, a time when Gordon Brown was busy abolishing the boom and bust cycle and replacing it with bust and bust. So good was the feeling of living beyond our means that with the help of a conspiracy of irresponsible lenders, reckless borrowers had no problem in suspending disbelief and enthusiastically following a pied piper government who liked to dress up consumption as investment and money printing as growrh.
British consumers were living in a never-never land of unrealistically high personal borrowings. They simply could carry on spending more than they are earning without a hard landing.
The housing market, for two decades the driver of economic growth relied on the illusionists art too. A chasm had opened up between average house prices (2006: Ł200,000) and average salaries (Ł25,000), it was filled with creative solutions, ie, loans greater than the value of the properties, repayment period longer than the buyers life expectancy and 'interest only' mortgages, an ingenious form of dodging the stigma of renting but carrying a huge risk of the home buyer becoming homeless when the capital borrowed became repayable at the end of the term . Borrowers were covered, but only by a diaphanous veil of sorcery.
More level headed pundits tried to get the message across but their warnings did not go down well with some sections of the media, particularly the ever more leftist BBC some sections of which have now abandoned any pretence of political neutrality and are criticising Labour leader Ed Miliband for not being Trotskyite enough.. The corporations news editors would not take warnings seriously seriously and accused those who raised the issue of being 'right wing nutters' who were using hyperbole in order to denigrate Labours socialist successes.
As the borrowing binge went on Britains savings ratio fell below zero in the final quarter of 2007. Consumers were spending more than they were earning and drawing on reserves to pay the interest on their debts. They had become spellbound by the loonytoons economics of concensus politicians and developed a weird belief in the magic of profligacy, i.e. the more money you owe the more money you have.
By the end of Labour's period in office we were running with an economic model that required consumers to exhaust all available supplies of credit and then find some new ones. Maximum spending first became the norm and then the minimum. Saving was for mugs, or so we were told. Governments continued to stoke up the fires of insanity, after the crash of 2008 many economic powers embarked on a stimulus programme, printing money and pumping it into the economy. It was a stupid response led by a stupid man, Barack Hussein Obama the closet Trotskyite President of the USA. What made it stupid was that Obama and all those who blindly followed him, afraid of being called racist if they pointed out the flaw in the logic. As a solution to a seemingly insoluble problem it offered more of what had caused the problem.
Things are not going to improve as a result of this, indeed, they could become very much worse, as a hideous combination of inflation and unemployment corrodes domestic balance sheets.
The 2008 credit crunch exposed the depth of the crisis, forcing central banks to cut interest rates to suicidal levels. With its base rate down to 0.5%, the Bank of England has bought time for overstretched consumers. It has postponed their day of reckoning but, as the governor, Sir Mervyn King, pointed out recently, the underlying problems of excessive debt have not gone away. Nor has the suicide bomb strapped to the national torso. While interest rates are so low and governments are having to sell bonds to fund their operating deficits, investors are borrowing from central banks at 0.5% interest and lending the money straight back at 3% by buying up bonds.
The UK savings ratio shot up after the 2008 crisis as people stopped spending, but is now back on a downward trend. Some borrowers seem to believe that rock-bottom interest rates are here to stay and are splashing out again. This is foolish. History tells us that the long-term trend rate is way above todays level. In the 1990s, the range was 5 to 13 per cent. In the 1980s, it was 7 to 16 per cent. As soon as interest rates start to rise millions of families are going to find themselves in dire straits.
Many people who are to prudent to be lured back into the borrow - spend circus would like to save but simply cannot. A survey by Markit, a financial information company, showed that higher debt levels were recorded for the seventh consecutive month in October. By income group, the sharpest rise in demand for unsecured credit was in the middle income band (Ł23,000 Ł34,500).
A Bank survey in 2010 found stark differences between household saving patterns, with over one third putting away nothing. This supports research by Morrisons, the supermarket group, which estimates that three in ten of its customers run out of cash at the end of every month. For some of these, borrowing on credit cards (average interest rate: 18.5 per cent) offers a quick but unsustainable fix. Those who have maxed out their credit cards or had their account closed as they are a bad risk are stuck with the usurious payday loans industry, or must resort to the services of the second oldest profession, pawnbrokers.
The Banks are caught on the horns of a dilemma. By locking down base interest rates, they fuel inflation, which gobbles up real incomes, hurting disproportionately those at the bottom end. With inflation at around 5 per cent, prices are rising three times more quickly than the average wage settlement which in 2011 was 1.8 per cent.
The Consumer Credit Counselling Service identifies 6.2 million households as financially vulnerable, including 3.2 million that are already either three months behind with a debt payment or subject to some form of debt action.
Having observed their predecessors build a dysfunctional economy by encouraging a cult of self immolation among consumers, current incumbents should know its crazy to encourage over-borrowed households to carry on spending money they do not have. Yet, in their desperation to kick start a zombie economies, they dare not recommend personal austerity. At some point, the truth will dawn on somebody: in order to slay the Debt Monster, retrenchment and hardship are unavoidable. Consumers must pare the fat from their household budgets and look look after their families first. Is the new version of Windows and the new more powerful PC you will need to run it really necessary, do the kids really need the latest overpriced, syllogisitcally rebranded gadget that sports an Apple logo, should trainers made by people earning 30p an hour really cost half a weeks wages for a western worker?
It is time for a return to reality.