What Does An Increase In Household Debt Mean For The Economy?

Households in the UK are sitting on an ever-growing pile of debt. Record low rates of borrowing have meant people have turned to loans and credit cards to be able to afford to keep up the pace with the rising cost of living.

The Bank of England has shown that personal debt grew 10.8% in the year to November 30 2016. That growth takes the total debt to £192.2 billion, the highest level since December 2008 – just after the financial crash.

The stats show a strong rate of growth in debt in the past year, with the suggestion that people are now using borrowing to pay for essentials and not just to fund luxuries or big ticket purchases.

But what does this increase in household debt mean for the economy? Is this merely fuelling another bubble that’s about to burst?

Interest rate rises and inflation are a cause for concern

The biggest worry is that the low cost of borrowing won’t remain. If interest rates rise then the cost of servicing this debt will rise and it may well push an awful lot of households ‘over the edge’.

This means that the economy is fragile and cannot afford a quick rise in interest rates.

While most predictions are that rates will only rise slowly this year, they may have to go up slightly in the near future and even a small change could be significant for people living on the edge.

Inflation is another key concern. This may even hit 4% next year – double the predicted rate - and many people are already reporting a rise in the price of food and other supermarket staples. If these costs go up significantly, consumers are ill placed to take a hit on their monthly budget.

Sign of fall in GDP?

An article for the World Economic Forum shows how researchers Atif R. Mian, Amir Sufi, and Emil Verner had analysed data from the last 30 years and found a link between household debt and trends for GDP.

The article states: “They find that a rise in household debt, largely produced by more readily available credit, is a valuable forecaster of a contracting economy, citing as a prime example the growth of household debt in the early to mid-2000s and the slowing of global growth in the latter part of that decade.”

If their analysis is accurate, we can expect an economic slowdown in the coming years.

Busy advisers

The amount of debt carried by people in the UK means that debt advisers and charities are likely to be busier than ever. With a lot of free advice available, there’s probably more help out there than people realise, but this will need to be retained, expanded and well publicized as people face up to paying off what they owe.

Timid workforce

People with debt are likely to desperately need to cling on their job if they’re going to stand a chance of keeping up the repayments. This leads to a situation in which workers are frightened of speaking up or pushing too hard for a pay rise or improvement in their terms and conditions. Pay has been slow to pick up after the financial crisis and one thinktank suggests it will take until 2022 to return to 2007 levels, meaning that we can expect this to continue. With pay low but inflation rising, the need to borrow money will remain.

Household debt in the UK is, therefore, a concern. It’s lead to a situation in which a lot of families are vulnerable to interest rate rises and inflation and are too nervous to rock the boat at work. It’s likely to lead to a continued growth in the need for advisers and could even be a sign of an impending fall in GDP.