From the TUC

What credit boom? Bank lending & the recovery

27 Feb 2014, by Guest in Economics

As the Bank of England have acknowledged, the current recovery has been associated with a decline in the household savings ratio (the percentage of their income that households save in aggregate).

As the latest Inflation Report puts it:

The UK economy grew by 1.9% in 2013, the strongest annual growth rate for six years. Much of that expansion was driven by consumer spending, as lifting uncertainty and easing credit conditions prompted households to reduce their rate of saving…

The saving ratio is likely to fall further in the near term, but it cannot fall indefinitely. The future path of consumption will therefore depend on the pace of household income growth.

The chart below shows the ratio back to 1987. The broad trends are clear – it fell heavily from 1992 until 2007 (the ‘Great Moderation’), rose sharply during the recession and it has fallen in the recovery (some of the recent volatility is explained by top earners shifting income around the cut in the 50p rate of tax to 45p – this reduced household income in Q1 2013 (and led to a large fall in the HSR) and boosted it in Q2 (as reported incomes increased)).

HSR feb 2014

It isn’t a huge leap to move from concern that the recovery is driven by a falling household savings ratio to a worry that the current recovery is yet another credit driven boom (and it’s something I am occassionaly guilty of through unintentionally loose use of lanaguage).

The evidence though, as found in bank lending data and presented in the following charts, is that we are quite some way from being in a late-1980s or mid-2000s style credit boom.

(One important caveat to the following charts – they all show lending growth in nominal terms – as inflation was higher in the 1970s/1980s than in the 1960s/1990s/200s, one would expect higher nominal lending growth).

Starting with mortgage lending, despite a strong pickup in house prices there isn’t yet much evidence of booming mortgage lending.

credit1

Indeed there has been quite a striking divergence between house prices and mortgage lending since mid-2012, all of which suggests that quite a bit of the house prices grow we are now seeing is driven by cash buyers and/or foreign inflows.

hp and mort

Gross mortgage lending has picked up much more substantially as the following chart from the BBA makes clear, but that has only recently fed through into a smaller rise in net lending (i.e. gross lending minus repayments). This suggests that 2013 saw a resurgence in remortgaging (which boosts gross but not net lending) as households sought to lock in lower rates.

BBA mortgage stats

Turning to unsecured household borrowing (credit cards, overdrafts and unsecured personal loans) there has been a much sharper pick up since mid-2012.

credit2

As the Bank of England have noted:

Household lending data suggest that easing credit conditions may also have supported consumption growth; growth in unsecured loans to households in 2013 was the fastest since 2008. As well as directly boosting the expenditure of credit-constrained households, easier access to credit has probably reduced some households’ incentive to build up savings in case they are unable to obtain credit when needed.

In other words a pick-up in unsecured borrowing (and a drawdown of existing savings) probably explain between them the falling household savings ratio, the rise in consumption and hence much of the recent recovery.

The picture for lending to non-financial firms by contrast remains bleak.

credit3

Put these charts together and you get the following picture:

credit4

It is really hard to look at that and conclude we are in the midst of a generalised credit boom.

To give a bit of context the chart below takes this lending data and adds in the growth rate of nominal (i.e. money terms, not inflation adjusted GDP).

credit5

Two periods really stand out in that chart – the late 1980s/Lawson boom when credit growth picked up well in advance of NGDP and the period from the late 1990s until 2008 when credit growth was again well ahead money GDP.

By contrast the current recovery (once again) does not look like a traditional credit boom. Whilst unsecured household lending is rising at an increasing pace that is not being matched by a generalised increase in lending.

Of course the absence of a generalised credit boom does not mean that the economic outlook is rosey.

During the previous credit boom household balance sheets deteriorated. The chart below shows household income to debts from 1981 to 2012 9we’ll have 2013 data next month).

credit6

This moved around 100% in 1987 (i.e. households in aggregate in 1987 owned roughly their annual income) to almost 170% in 2007. Over the last five years this ratio has declined as households have saved more and borrowed less – it fell to around 140% by 2012. This is the process of household deleveraging as they reduce their debts relative to incomes. Most economists thought that this was both a necessary process to put households in a stronger position and one that would lead to slower growth in the short term.

The process of household deleveraging though appears to have reversed. Unsecured borrowing is on the up, mortgage lending is growing again and the savings ratio is falling.

I think it is fair to say most economists expected the income to debt ratio to get well below 140% before it started growing again.

The fundamental point remains that the UK’s recovery to date has been unbalanced- too dependent on household consumption and with that household consumption not underpinned by income growth but rather by a falling savings ratio.

As the Bank (and now the Chancellor) have acknowledged this is unsustainable in the medium term. Unless business investment becomes a larger driver of growth and unless household incomes starts to growth at a decent pace then the current recovery will peter out.

There are many reasons for caution about the nature of the current recovery (consumption driven, a weak trade performance, squeezed living standards, etc, etc) but fretting about a generalised credit boom isn’t one of them, in fact weak bank lending to firms (which may be constraining investment) remains a real worry.

One Response to What credit boom? Bank lending & the recovery

  1. Heather Wakefield
    Feb 28th 2014, 6:30 pm

    Hi Duncan,
    Thanks for that. A really useful article :-)
    Could you comment on the view I have heard expressed several times recently that a large chunk of the growth in household consumption has been driven by £12bn quids worth of PPI repayments, which people are treating as windfalls and therefore buying cars etc?
    Thanks, Heather