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Applying the brakes to consumer credit – lenders take prompt from BoE

Wednesday 19th July 2017

Written by Martin Upton

Over the past year the Bank of England has regularly expressed concern at the pace of growth of unsecured lending in the UK. This form of consumer credit, which includes credit card debt, car finance and unsecured bank loans, grew by over 10% in the year to April. The concern is that if economic conditions deteriorate and if interest rates rise many households will find that they cannot meet the repayments due on their unsecured debts. 
The economic backcloth does indeed make these concerns warranted. Higher price inflation is resulting in a fall in real incomes for many households. This has resulted in particular from the higher cost of imports due to the fall in the value of the pound since last year’s Brexit vote. Economic activity is slowing and this could lead to a reversal in the decline in unemployment witnessed in recent years. Additionally the household savings ratio, which measures the amount households can save as a proportion of their disposable income, fell to a record low of 1.7% in the first quarter of this year. This means that households have limited financial ‘resilience’ to accommodate adverse shocks to their finances. Indeed there is evidence already of the strains on household finances with the default rates on credit card debts now running at its highest since 2009.
The good news is that the Bank of England and the lenders themselves are being proactive in addressing these concerns.
In June the Bank of England told the banks and other lenders to build up an extra £11.4 billion of capital in the next 18 months. This capital provides protection in the event that an economic downturn results in an increase in defaults on unsecured loans. This additional capital requirement is known as a ‘countercyclical buffer’ and it aims to maintain the financial stability of lenders when economic conditions are less benign than they have been in recent years. 
Additionally there is also evidence that lenders have been taking action to rein in unsecured lending. The Bank of England’s latest survey on consumer credit found that a net balance of over 10% of lenders had tightened the availability of unsecured loans in the second quarter of this year. This net balance of the tightening of credit is the highest since 2009 when the UK was still in the throes of the global financial crisis. This bias towards the tightening of credit is expected to continue during the second half of 2017.
There is, of course, the conundrum that reducing the availability of credit will result in a fall in consumer spending and trigger a decline in economic activity that hits both firms and households. The Bank of England will be fully aware of this risk. The next few months will see how well the Bank walks the tightrope of reining in excessive lending without inflicting damage to the well-being of the economy.
*Martin Upton is Director of True Potential PUFin

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