Chill out about the debt bubble?

Not yet.

What role did high levels of household debt play in generating the crash and what do they mean for our economy over the next few years? 

Well-worn questions, you might think. And no shortage of people have asserted answers.  Following 2008, a whole new crunch-lit genre of books emerged to explore this. There is – or perhaps, was – something of a post-crash orthodoxy that the rise of easy credit, fuelled by run-away rewards for the super rich, and a squeeze elsewhere, encouraged ever greater borrowing. 

A favoured narrative, often echoed by the coalition, is that debt ballooned as consumers (and home buyers) went on an irresponsible binge – it was all demand-led.  Others argue, particularly in the US, that exploding debt reflects an act of policy – whether explicit or implicit – to increase the supply of easy credit for low and middle income groups who were seeing their wages stagnate.  From this perspective, it was less a story of families living beyond their means and more about coping when their means stopped growing. 

More recently, however, there has been a counterblast to these prevailing views.  The FT’s economics editor Chris Giles, a leading authority on our current economic predicament, maintains that fast-rising household debt should be greeted with little more than a shrug of the shoulders. Ben Broadbent of the Bank of England’s MPC makes a similar case. Higher debt is essentially about mortgages and it reflects rising house prices (let’s leave to one side for now the fact that rising debt and assets signifies a big transfer between the generations, benefiting the old at the expense of the young). And once we do take assets into account we find that the net financial position of households is roughly similar to the position twenty years ago. Relax.

Nor should we get het up about the banks having undertaken an orgy of easy and ill-judged lending. Few of the loans made to UK households have turned nasty. Banks made stupid mistakes, to be sure, but they mainly came in the form of bad loans made overseas, not in the UK (as highlighted in this good blog by Ben Chu discussing the speech by Broadbent). 

So, rather than fret about the enormous size of our debt overhang and what it means for our future growth prospects, we should move along and worry instead about something more meaningful.

This account is right, of course, to point out that not all the growth in household debt is problematic.  Plenty of households will have borrowed  more for an asset (a house) that is worth a bit more, and achieved this by taking on a debt they are capable of servicing. Nothing much wrong with that. But in scoring this point, advocates risk downplaying a bigger one: debt still matters.

First, the distribution of debt burdens across different income groups is important.  Aggregate data often conceals far more than it reveal. As the chart below shows, at the bottom of the income distribution the growth in consumption appears to have massively outstripped increases in income – unsustainably so.  (A health warning is necessary here: survey data on the lowest - and highest -  incomes can be highly imperfect, so a degree of caution is warranted on the precise numbers, but the overall pattern is likely to be correct). 

Source: NIESR analysis for the Resolution Foundation

What was driving this growth in consumption is less clear cut. Part of it is likely to be underlying shifts in the cost of living that bore down hard on low income families. Another element will have been increased mortgages (though the proportion of the poorest holding a mortgage barely rose from 1997-2007, so this isn’t likely to be the only thing going on here). And if the UK consumer is anything like their US counterpart, high levels of inequality may have played a role in generating ‘trickle-up consumption’ – whereby lower income groups strain to keep up with the spending of the affluent.  

Second, we shouldn’t be complacent about the number of bad loans or repossessions. Depending on the definition applied, between 5 per cent and 8 per cent of mortgages are  currently in forbearance – an agreement between mortgagors and their bank which usefully allows repayments to be rescheduled – but this stay of execution cannot be expected to last indefinitely or resolve the underlying affordability issues that hang over many households.

Third, the revisionist argument is in danger of downplaying the risks – potentially scary ones – of what might happen if, eventually, interest rates rise before we have strong household income growth (a point highlighted on this blog before).  True, at the moment, with the economy crawling along the floor and the euro-zone teetering on the brink, talk of higher interest rates feels very far-fetched.  But with inflation still stubbornly above target, and the Bank yet again claiming it will be another year before it falls into line (meaning inflation will have been above target for most of eight years) the medium term outlook for interest rates remains uncertain. At some point the interest rate hawks will regroup – and eventually a more normal level will return.  

All this matters greatly because a high debt burden means many households are already highly exposed; we just tend not to talk about it much because the headline Bank rate is so low. Consider the current burden of servicing mortgage payments for low to middle income households.  It is broadly similar, incredibly you might think, to the burden faced in the late 1990s when interest rates were 5 to 7 per cent. That’s partly due to the rapid growth in interest rate spreads, and partly due to the greater stock of household debt. 

An increased burden: proportion of gross income accounted for by mortgage payments among low to middle income owners

Source: Resolution Foundation 

Which takes us on to the final point: the extent to which the burden of debt will continue to bear down on UK consumers – or at least a sub-set of them. The truth is no-one really knows whether or how far household debt needs to fall. If we listen to McKinsey, we’d believe that the UK is only just beginning the painful adjustment – behind countries like the US – and it could take a decade before the ratio of UK household debt to disposable income returns to its pre-bubble path.  Other analysis  argues that to be "sustainable", household debt needs to fall from the current level of just below 150 per cent relative to income to nearer 115 per cent - a process that is likely to take until 2019 (after fiscal balance has been achieved). If so, deleveraging as well as public austerity will be a drag on consumers.  

Four years on and we’re still to have a full reckoning with the crisis. UK household debt didn’t cause it all. And high levels of debt aren’t always bad in themselves.  But we’d be silly to be sanguine.  The debt mountain makes us highly vulnerable, and will be living with it for some while yet.

In the shadow of a debt mountain. Photo: Getty Images

Gavin Kelly is a former adviser to Downing Street and the Treasury. He tweets @GavinJKelly1.

Photo: Martin Whitfield
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Labour MP for East Lothian Martin Whitfield: "I started an argument and ended up winning an election"

The former primary school teacher still misses home. 

Two months ago, Martin Whitfield was a primary school teacher in Prestonpans, a small town along the coast from Edinburgh. Then he got into an argument. It was a Saturday morning shortly after the snap election had been called, and he and other members of the local Labour party began discussing a rumour that the candidate would be an outsider.

“I started an argument that this was ridiculous, we couldn’t have a candidate helicoptered in,” he recalls. He pointed out that one of the main issues with the Scottish National Party incumbent, the economist and journalist George Kerevan, was that he was seen as an outsider.

“I kept arguing for an hour and a half and people started gently moving away,” he jokes. “About two days later I was still going on, and I thought enough’s enough.” 

He called Iain Gray, the Scottish Labour veteran, who interrupted him. “He said, 'Right Martin, are you going to put up or shut up?’ So I filled in the forms.

"Then I had to have a very interesting conversation with my wife.”

One successful election campaign later, he is sitting in the airy, glass-roofed atrium of Westminster’s Portcullis House. Whitfield has silver hair, glasses, and wears a Labour-red tie with his shirt. He looks every bit the approachable primary school teacher, and sometimes he forgets he isn’t anymore. 

I ask how the school reacted to his election bid, and he begins “I have”, and then corrects himself: “There is a primary four class I had the pleasure to teach.” The children wanted to know everything from where parliament was, to his views on education and independence. He took unpaid leave to campaign. 

“Actually not teaching the children was the hardest thing,” he recalls. “During the campaign I kept bumping into them when I was door-knocking.”

Whitfield was born in Newcastle, in 1965, to Labour-supporting parents. “My entire youth was spent with people who were socialists.”

His father was involved in the Theatre Workshop, founded by the left-wing director Joan Littlewood. “We were part of a community which supported each other and found value in that support in art and in theatre,” he says. “That is hugely important to me.” 

He trained as a lawyer, but grew disillusioned with the profession and retrained as a teacher instead. He and his wife eventually settled in Prestonpans, where they started a family and he “fought like mad” to work at the local school. She works as the marketing manager for the local theatre.

He believes he won his seat – one of the first to be touted as a possible Labour win – thanks to a combination of his local profile, the party’s position on independence and its manifesto, which “played brilliantly everywhere we discussed it”. 

It offered hope, he says: “As far as my doorstep discussion in East Lothian went, some people were for and against Jeremy Corbyn, some people were for and against Kezia Dugdale, but I didn’t find anyone who was against the manifesto.”

Whitfield’s new job will mean long commutes on the East Coast line, but he considers representing the constituency a “massive, massive honour”. When I ask him about East Lothian, he can’t stop talking.

“MPs do tend to say ‘my constituency’s a microcosm’, but it really is Scotland in miniature. We have a fishing industry, crabs and lobsters, the agricultural areas – the agricultural soil is second to none.” The area was also historically home to heavy industry. 

After his first week in Westminster, Whitfield caught the train back to Scotland. “That bit when I got back into East Lothian was lovely moment,” he says. “I was home.”

Julia Rampen is the digital news editor of the New Statesman (previously editor of The Staggers, The New Statesman's online rolling politics blog). She has also been deputy editor at Mirror Money Online and has worked as a financial journalist for several trade magazines. 

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