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OPINION

What debt threat?

What debt threat?
January 20, 2016
What debt threat?

The Bank of England estimates that households now owe £1.46 trillion, of which £1.28 trillion is mortgage debt and £178m consumer credit.

This might sound a lot, but it's not. Households also earn a lot; their pre-tax income is £1.35 trillion. Our total debt is therefore equivalent to a man on £25,000 a year having a mortgage of under £24,000 and just over £3,000 of other debt. We wouldn't consider such a man to be especially over-extended. So where's the problem?

It's that debt is not evenly distributed. Some people, like Corrie's Tyrone Dobbs, have borrowed too much. If there are many like him, then we could see a combination of falling consumer spending as they try to pay off their debt and rising bad debts as they fail to do so.

Many others might be able to cope with their high debts if their incomes stay the same, but would be unable to do so if they fall on hard times. This fate will befall some. In the third quarter, 830,000 people left employment - a fact that tells us that even in average times for the aggregate economy, many people see their incomes fall.

Such people, though, are only part of the story: anything is true of someone. Others of us are cash-rich: this can include some people with apparently high debt, if they have taken zero per cent finance to buy a car. And others are credit-constrained: think of youngsters at the start of what will be a lucrative career or older people in expensive homes who can't find an equity release scheme that offers a decent deal. For these, debt is not high enough.

In other words, thinking in aggregate terms about 'the consumer' is misleading. What matters is the interaction between debt and idiosyncratic shocks. If highly-indebted people suffer bad times, they'll have to retrench severely, which might have macroeconomic effects. If, however, the bad times hit the more cash-rich, they'll respond by running down savings or borrowing more, thus smoothing the shock. We are in a world of complexity and emergence, in which accurate forecasts are impossible.

You might reply that consumers tend to be over-optimistic and so have a tendency to borrow too much. History, however, rejects this. In the past, high consumer spending relative to wealth has led not so much to falls in spending as to rises in share prices. This suggests that strong spending can be a sign of consumers - on average - correctly anticipating better economic times. Maybe, then, the debt threat is overstated.

History tells us that recessions are caused not by the errors of consumers but by those of policymakers, bosses or bankers.

For me, this raises a puzzle. You can think of debt and savings as types of transport. When we take on debt, we transport our spending power from the future to the present. And when we save, we transport spending power from the present to the future. Nobody thinks that transport from one place to another causes economic trouble. So why should transport from one time to another be so problematic?