Incomes are falling, placing our economic growth on borrowed time



Politics may be dominating the news agenda at the moment, but there’s a lot going on in the economy too. For those who care about living standards – and given the centrality of the issue to both the Brexit vote and the general election, that should include politicians – this week has been a bumper one for data. We’ve had the full set of quarterly national accounts confirming that GDP growth slowed markedly at the start of 2017; the latest economic accounts which provide an updated picture on household incomes and saving; warnings on our use of credit in the Bank of England’s Financial Stability Report; and some preliminary findings from the latest wave of the Wealth and Assets Survey on household attitudes to saving and debt. Below we run through nine things we should take away from the various releases.

1) We’re officially getting poorer

The chart below sets out year-on-year growth in real-terms household income per person across the UK. Measured on an annualised basis, the trend turned negative in Q1 2017 for the first time since Q1 2014. The fall isn’t as deep or prolonged as the one that arrived following the financial crisis of 2008. But, as the back series shows, any drift into negative territory at all would have been considered highly unusual in the pre-crisis period.

2) This comes after a prolonged period of poor performance on incomes

A quick eyeballing of the chart above suggests that post-crisis income growth has consistently fallen short of the levels we were used to in earlier years. That’s confirmed in the next chart, which shows  real-terms income per person stretching all the way back to 1956. Prior to 2008, the upwards trend is almost uninterrupted. But, progress has ground to a halt since then. Indeed, average annual growth stood at 2.6 per cent before the financial crisis; since then it has been 0.3 per cent.

Take these first two charts together and you start to get a sense of why economic disillusionment is somewhat elevated at the moment. As we’ve argued before, it might also explain why June 2017 wasn’t the best choice of date for an election from the government’s point of view.

3) As income growth has shifted into reverse, so the saving ratio has plunged

While income growth slowed sharply over the second half of 2016, consumer spending remained resilient. Indeed, such expenditure ended up accounting for the entirety of economic growth in the calendar year and was central to the non-arrival of any post-EU referendum slowdown.

As the next chart shows, that consumer resilience manifested itself in a substantial reduction in the household saving ratio (the portion of total household resources that is available for saving). This particular chart comes with a health warning – it’s volatile and is due for significant revision in the coming months which will change both the level and the shape of the time series. Nevertheless, there is a clear downward trend (taking the ratio to its lowest ever level on the current measure).

4) Consumer credit growth has been particularly high

While the saving ratio picture might change following revision, the importance of borrowing over recent months remains clear when we turn to look at the pace of growth in different forms of credit in the next chart. Secured credit growth (largely mortgages) has picked up a little, but remains subdued relative to pre-crisis trends – reflecting relatively muted housing market activity. What really stands out is the rapid pace at which consumers have shifted back towards consumer credit. Year-on-year growth reached 10.9 per cent in November 2016, its fastest rate since 2005. It has fallen only marginally since, remaining at 10.3 per cent in April 2017.

5) Underpinned in part by looser credit conditions and changed consumer behaviour

The pace of this growth warranted comment in the Bank of England’s latest Financial Stability Report and caused some to worry that we might be heading for another painful credit-fuelled bust. The Bank identified “weaknesses in some aspects of underwriting and a reduction in resilience”, and there is also evidence that households have moved back towards behaviour that might be considered ‘risky’. For example, as the next chart shows, increasing numbers of consumers appear to be making no more than minimum repayments on their credit cards. Increases in each of the last five quarters stand in direct contrast to reductions in such activity in the earlier post-crisis period.

6) Yet, there is reason to believe that the credit surge will be short lived

The fact that the Bank of England has been quick to express concerns about our household debt position represents a clear departure from its position ahead of the financial crisis. The Bank has also been clear that it stands ready to intervene in both the secured and unsecured lending market should it feel the need to cool things down: having been burned so recently, the increased attention given to borrowing patterns is reassuring.

But the memory of the last crash lives on not just in the minds of the regulators. It might be that we see more restraint from both lenders and borrowers this time around, even in the absence of intervention by the Bank. That’s at least implied by the next chart, which presents an assessment of the accessibility of unsecured credit to households. Following the extreme of the credit crunch, availability was reported to have increased consistently between 2011 and 2016. But that trend moved into reverse at the start of 2017, and expectations are that access will be much reduced in the Q2 2017 figures.

7) And households are less concerned about their debt levels than at any time since the crisis

The recent surge in borrowing is certainly dramatic, but it is worth thinking again about the context underpinning it. Following a long squeeze on earnings and incomes, household finances enjoyed something of a ‘mini-boom’ (on average at least) in 2015 and the first half of 2016. Having reduced their debt levels somewhat from the heights of 2008, and after several years of enforced belt-tightening, it is perhaps no surprise that families took the opportunity to spend and borrow more over the course of the year.

Consumer confidence was high in 2016 and, as the next chart shows, unsecured debt represented a much reduced ‘burden’ for families relative to previous years. While it’s true that one-in-four households regarded their credit commitments as either a ‘heavy’ burden (7 per cent) or ‘somewhat’ of one (19 per cent) in the second half of last year, the figure was well down from the one-in-three reporting such a position between 2010 and 2012.


8) Debt remains elevated though, and the surge in credit needs to be monitored

Of course, while there might have been some ‘space’ for something of a rebound in borrowing in 2016, such rapid growth cannot be sustained indefinitely. Things may already be changing on this front but it is important – as the Bank of England has identified – to watch developments over the coming months very carefully. As the chart below shows, household debt remains elevated relative to 20th century levels: total outstanding debt of £1.8 trillion is equivalent to 143 per cent of annual household income.

9) If incomes fall and credit growth slows, we can expect consumption – and therefore overall – growth to fall back

As the final chart shows, household spending has been the driver of economic growth over the last year. Yet as we have seen, that spending has been underpinned by increased borrowing and lower saving. With earnings and incomes now falling, we face the prospect going forward of either sustaining consumption growth by maintaining a reliance on rising debt, or accepting slower growth as the price for putting our credit cards away.

At some point, we have to choose the second path. With that in mind, there is even more cause than usual to work towards a rebalancing of our economy, with net trade and investment playing a larger role. On that front, we can take some solace from the fact that global growth is improving and business investment intentions are picking up. It’s also worth remembering that some of the slowdown in income growth we’re facing is being driven by a spike in inflation associated with the Brexit decision – and we can expect that effect to drop out over the coming years.

But, with so much uncertainty surrounding the UK’s economic prospects right now, it’s vital that our politicians spend time focusing on the big economic challenges of 2017 as well as the political ones.