Posts Tagged ‘household debt’

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The ONS revised again. It always does, but it can be hard to keep up. You may recall, back at the end of 2011 the UK fell back into recession, suffering what we called a double dip — except it didn’t. Subsequent revisions of the ONS data on GDP revised the contraction away. You may also recall that the UK grew by 0.6 per cent in Q2 of this year, which was good, but working against this was that much of the growth came on the back of rising consumption, or falling savings. Given the high level of UK household debt, some might say that this development was a tad worrying — except that they didn’t. The data has been revised, and this time the story revealed is much more encouraging.

The first revision was to the headline figure. The ONS is now saying the UK economy expanded by 0.7 per cent in Q2. To put that in context, the US expanded by 0.4 per cent and the Eurozone by 0.3 per cent in the quarter. On an annual basis the economy expanded by 1.5 per cent.

Drill down, however, and the data looks more encouraging still.

It turns out – or at least this is what the latest data says – that investment jumped by 1.7 per cent quarter on quarter and net trade rose by 0.3 per cent. Okay, the poor old indebted consumer spent more too, largely by adding to his and her debt. Consumer spending was up 0.4 per cent – boosting retail sales in the process, but then again, it is all the more encouraging that at a time of growing consumer spending, net trade provided a positive contribution to growth.

As another story today shows that there has been a gradual rise in the UK’s export sector at a time when global trade is seeing only modest growth and this provides reason to hope that this time the UK recovery is for real. See: The UK’s export-led recovery

Drill down further still in the UK GDP data, and it emerges that both manufacturing and construction grew faster than services – or to remind you of the caveat, so says the latest data, which may get changed again.

Vicky Redwood, chief UK economist at Capital Economics, said: “Looking ahead, the economy still faces some serious constraints (including the fiscal squeeze and weak bank lending), so it may struggle to keep growing at quite such robust rates.”

It is not hard to be cynical about the data. Sure, manufacturing and construction are growing, but from very low levels. Considering where we are in the economic cycle, a growth rate of 0.7 per cent is pretty modest, and there are reasons to think growth will slow later in the year.

The point is, however, that the UK does appear to be recovering. The recovery is slower than we might like and there are reasons for caution, but compared to what we have seen over the last half a decade, the growth rate is pretty good. Relative to what we are used to, the UK is booming. In China, growth is around three times faster, but relative to what China is used to, it feels like a crisis. This time, unlike in 2010, the recovery does fell a little more real.

Let us finish on a qualified positive note. Other recent data from the ONS reveals that UK total net worth at the end of 2012 was estimated at £7.3 trillion; this was equivalent to approximately £114,000 per head of population or £275,000 per household. The estimated increase in UK net worth between 2011 and 2012 was £74 billion. Okay, the increase in wealth was largely down to rising house prices and equity values and they can fall as well as rise. The jump in asset values goes some way to justify rising consumer spending.

One question remains, however. How sustainable are rises in consumption at a time of high household debt on the back of rising house prices, at a time when they already seem too high?

© Investment & Business News 2013

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Now some surveys are suggesting that parts of the UK economy are enjoying their best growth since 2006. So is that it then? Is the crisis that began in 2008 well and truly over? And here is another question: does it just go to show the government was right all along? Austerity works, QE, or quantitative easing, is best?

There are reasons to think the recovery this time around is for real, unlike in 2009/2010 when the UK saw something of a false dawn. This time real things seem to be happening. UK exporters are enjoying more success selling their wares outside the Eurozone, and the success enjoyed by the car industry is a good example of this. Then there is evidence of reshoring, as companies look at return at least some of their manufacturing to their home markets.

But does this really prove that austerity works? Does this really prove QE was the right thing to do all along?

There is something quite ironic about something George Osborne has said. He has often laughed off ideas that the way to solve a crisis caused by having too much debt was to borrow more. That was how he has defended austerity. And yet, by encouraging a new housing boom, it could be argued that Mr Osborne is trying to solve an economic crisis caused by too much household debt, by getting households to borrow more.

It boils down to whether you think government debt is worse than private debt. Just remember that in many parts of the world, such as Spain for example, household debt became government debt.

Now let’s focus some more on UK household debt. In the year 2000 UK household debt to disposable income, according to the OECD, was 112 per cent. In 2007 it was 174 per cent, and in 2012 it was back down to 146 per cent. The Office of Budget Responsibility recently forecast that UK household debt is set to rise again – albeit not by a great deal. This differs, by the way, from the US which has seen the ratio fall to a much lower level, and which is expected to fall even further.

Household debt keeps getting forgotten. It was household debt across the UK, the US and Europe which explained why QE was never going to lead to hyperinflation. Households had become afraid to spend, to borrow. The money supply, the broad money supply, which economists believe is associated with inflation, is as much determined by debt and borrowing levels as anything.

Despite the Bank of England issuing £375 billion in QE over the last few years, the broad money supply has only seen very slight growth. See it terms of a bath with a big hole in it. You turn the tap on full, to make up for the water leaking out of the bottom, and many, who seem to be oblivious to the hole, fret that the bath will overflow.

QE was never going to lead to hyperinflation and the biggest failing of the European Central Bank was not to realise this.

But just because QE was not going to create hyperinflation that does not mean it is a good idea. If you have a bath with a hole in it, what is the best thing to do? Is it to turn the taps up full, or try to fix the leak? QE amounts to taking the former approach.

The trouble with austerity is that it can work when tried in isolation. But it has not been tried in isolation; rather it has been a Europe wide thing. This has had disastrous consequences for the UK and Eurozone.

The UK had a worse downturn than most of the Europe because the UK was more reliant on its banking sector. The UK is enjoying a faster recovery than the Eurozone partly because it is not in the euro and has a cheaper currency, and partly because of QE.

But while QE has not created hyperinflation, it has led to higher asset prices. To misquote George Osborne: “How can you solve a crisis caused by asset prices being too high, by getting asset prices to rise?”

What the UK, the US and Europe need is for central bank money printing to fund investment to enable the world’s developed economies to start fulfilling the potential of the fantastic innovations we have seen in recent years.

Instead, we have seen the UK return to old habits. Central bank policy via QE and government policy are combining to push up house prices and household debt when what we need is more investment. This is not a good development.

© Investment & Business News 2013

Back in May 2010, increases in average wages were less than the rate of inflation. It has been that way every month since. Consumers may be feeling more confident, retail sales may be up, but one thing is sure, the improvements in sentiment are not down to rising wages. But in the latest data from the ONS there was a whiff of hope. Is it possible that wages are at last set to rise faster than prices?

In May 2010 inflation was 3.4 per cent. Wages (that’s including bonuses, by the way) rose by 2.5 per cent. Ever since then it has just got worse. The gap peaked in October 2011, when inflation was 5 per cent, and averages wages rose by 2 per cent, and until very recently the gap was almost as large. In March, for example, inflation was 2.8 per cent, while average wages rose by just 0.6 per cent. But since then things have begun to look better – that’s despite inflation getting worse. In May inflation was 2.9 per cent, but wages rose by 1.9 per cent. This was the highest level of annual increase in average wages since January 2012.

Looking forward, inflation may pick up over the next few months, but it is likely to fall later in the year.
So, if the rate of increase in average wages can carry on rising for a little longer, within a few months we might once again find wages are rising faster than inflation.

Many economists believe that a sustainable recovery in the UK economy can only occur once wages rise faster than inflation.

That, by the way, has been the snag with recent reports pointing to rising house prices and retail sales. How can they rise, if real wages – that is wages relative to inflation – are falling? Answer: they can only rise if household debt increases, and as it was told here the other day, UK housholds have enough debt as it is. See: What will happen to households as rates rise? 

In fact the hard data provides the evidence. UK households have been saving a lot less of late and borrowing more.

 

And so returning to wages and inflation, if it is the case that at last wages can rise faster than inflation then that is reason to celebrate.

It is just that in the long run, wages can only rise faster than inflation if productivity is improving. Alas there seems to be precious little evidence of that occurring at the moment.

© Investment & Business News 2013

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The threat posed by debt just won’t die down. Last week we reported that the Bank of England’s figures suggest that the UK cannot afford much higher interest rates. New figures from the Resolution Foundation suggest that the situation is even worse than the Bank of England suggested.

“If interest rates rise 1 per cent,” said the Bank of England in its latest Financial Stability Report, “households accounting for 9 per cent of mortgage debt would need to take some kind of action — such as cut essential spending, earn more income (for example, by working longer hours), or change mortgage — in order to afford their debt payments if interest rates rise…If interest rates rise by 2 per cent,” continued the Bank, “ditto, except that that it will be households accounting for 20 per cent of mortgage debt who will be so cursed.”

The Resolution Foundation has also taken a look at the story of the UK’s household debt, and its conclusions are even more disturbing.

Before the crisis of 2008 household debt across much of the developed world was worryingly high. Some countries, such as Denmark, Ireland, the Netherlands and Norway had it worse. Nonetheless with a ratio of household debt to gross house disposable income of 174, it was worryingly high in the UK. The good news is that it has since fallen, and the ratio at the end of 2012 was 146.

Alas, according to estimates from the Office of Budget Responsibility (OBR) it is set to rise again – not by much, for sure, but any rise is worrying. The OBR does in fact project that there will be a household debt to disposable income ratio of 151 by 2017 . To put that in context the ratio was just 112 in the year 2000. In the US, at the end of 2012 the ratio was 106.

According to the Resolution Foundation, at the end of 2012 no less than 3.6 million households were spending more than a quarter of their disposable income on debt repayments. Debt levels, however, are expected to rise as the government attempts to kick life into the UK housing market by encouraging greater mortgage lending.

But in its most recent report the Resolution Foundation looked at households whose debt repayments make up more than half of disposable income, or those in so-called debt peril. Right now, around 2 per cent of all households are in this position. If things carry on the way they are supposed to, and rates rise in line with Bank of England projections and real wages increase in line with projections for GDP, the Resolution Foundation estimates that the percentage number of households in debt peril will rise to just under 3 per cent by 2017. This is similar to the level seen in 2007, in fact.

If rates rise by 2 percentage points more than expected, the foundation estimates that the percentage number of households in debt peril will rise to 4 per cent. If, in addition to this, wages fail to rise with GDP, but rather – as has been the case in recent years – increases in wages continue to be outstripped by inflation the Foundation estimates that the number of households in debt peril will rise to 5 per cent.

Okay, you might say, but if this is the case then the Bank of England may not let interest rates rise. Unfortunately, central banks may have less say over the matter than is generally thought. See: The Great Reset 
There are all sorts of combinations and permutations.

But the points to remember are these: as rates rise in the US, the Bank of England may be forced to either up rates, or let the pound fall. If rates rise, debt levels in the UK will increase. If the pound falls, inflation will pick up, real wages may fall, and once again debt to income may fall.

In short, we may be in big trouble whatever happens.

But just bear this in mind. Debt does not matter if the percentage interest on debt is less than the percentage increase in income. What the UK really needs is for incomes to rise, and for this to happen it needs improving productivity, which comes from more investment.

© Investment & Business News 2013

If QE in the US is coming to an end, what does that mean for the rest of the world?

Two countres that may be vulnerbale are Canada and Australia.

There are certain parallels between the Australian and Canadian economy today and the US and UK in 2007/08.

Take household debt.

Or take house prices:

Both the Canadian and Australian economies may be large and independent enough to be relatively immune from the effect of changes in US monetary policy.

However, such large levels of household debt combined with historically high house prices, does appear to suggest vulnerability, and if interest rates were to rise globally, the two economies may be susceptible to a sharp slowdown, maybe something more serious.

© Investment & Business News 2013

What is better: boom and bust or gradual?

In the US it was boom time in the noughties. Real house prices soared some 40 per cent between 2000 and 2006. Household debt leapt from around 90 per cent of income in 2000 to around 130 per cent in 2006.

In Europe, things were more gradual. Real house prices peaked in 2007 when they were around 30 per cent up on the 2000 level. Household debt to income rose from about 80 per cent of income in 2000 to around 108 per cent by 2012.

It is just that in the US, real house prices crashed, falling back to their 2000 level by around 2012, and have been slowly recovering since then. Household debt to income dropped from 130 or so per cent to around 106 today.

In the euro area, house prices have now fallen back, but are still some 18 per cent over peak.

In other words, US household debt to income is now lower than in Europe, and house prices appear to be on the road to a slow recovery.

In Europe house prices probably have further to fall and debt to income is looking worrisome. The US had a very nasty recession circa 2008, but is now recovering. The euro area seems stuck in depression.

© Investment & Business News 2013

There is one snag with the argument that QE is set to unleash inflation, and there is one snag with the argument that today’s woes are caused by debt.

In fact the snag may be the same with both arguments, and the snag is that both arguments are probably wrong.

Certainly those who draw parallels with the 1970s, and say inflation is inevitable and we need to see a 21st century answer to Maggie may be drawing the wrong conclusions.

Back in the 1970s the problem in the UK was that wages had been rising too fast, and unions had grown too strong. Inflation was led by inflation in wages.

Now let’s take a look at November 2013. According to ONS data out on 23 January, average wages including bonuses rose by just 1.5 per cent in the three months to November. Inflation, measured by the retail price index, was 3 per cent.

Last year, many forecasters predicted that by the end of 2012 growth in average wages would have outstripped inflation, meaning  households would have become better off, and the UK could look forward to sustainable growth in demand.

Instead, growth in wages failed to move even close to inflation and in November the gap actually started to grow again.

The truth is that corporate profits and growth in GDP have barely been trickling down into wages for a very long time. The last few years have simply seen this trend become more exaggerated.

But this problem is not new. Nor is it specific to the UK. According to the US Congressional Budget Office, for the one per cent of the population with the highest income, average real after-tax household income grew by 275 per cent between 1979 and 2007. For others in the 20 per cent of the population with  the highest income (those in the 81st through 99th percentiles), average real after-tax household income  grew by 65 per cent over that period, much faster than it did for the remaining 80 per cent of the population, but not nearly as fast as for the top one per cent. For the 60 per cent of the population in the middle of the income scale (the 21st through 80th percentiles),  the growth in average real after-tax household income  was just under 40 per cent. For the 20 per cent of the population with the lowest income, average real after-tax household income was about 18 per cent higher in 2007 than it had been in 1979.

See: Trends in the Distribution of Household Income Between 1979 and 2007

This lack of trickle down should have led to falling demand creating one economic recession after another. It didn’t for this reason: The profits that were not trickling down, sloshed around the banking system eventually finding their way into more readily available credit, pushing up house prices, and encouraging households to borrow.

Household debt was not the cause of today’s crisis; it was a symptom of deeper problems.

During this era, we saw lending for mortgages rise, but business lending did not do so well. By the noughties, entrepreneurs had been transformed from innovators to buy-to-let investors.

Yet data out this week shows that the government funding for lending scheme is sort of working.  At least the Council of Mortgage Lenders reckons mortgage lending will hit its highest level since 2008 this year.

But data from the Bank of England shows that lending to business in the three months to November was £4 billion down on the previous three month period. See: House prices set for recovery as UK falls for same old illusion

In short, not much has changed.

©2012 Investment and Business News.

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