Recent years have seen growing concern about the amount of unsecured debt held by UK households. On the Bank of England’s measure households now hold a total of over £200bn of this kind of debt—things like credit card debt, unsecured loans from banks, and car finance debt. Of course the total volume of the unsecured debt for households might have important implications for financial stability, as the Bank of England itself has noted. But knowing the total amount of household debt in the UK tells you very little about whether debt is a “problem,” or more generally what impact it is having on household living standards.
Often lost in the concerned reporting and discussions of unsecured debt is that taking on debt can be entirely appropriate and in fact raise households living standards. Consider an individual offered a job in the next town, but without the cash in hand to buy the car they need to get to the new office. Clearly, borrowing to buy the car could boost rather than harm their future living standards.
And the evidence suggests that a large chunk of that £200bn debt does in fact look manageable. More than half of all unsecured debt is held by households with above-average incomes, and more than half of households with debt have enough financial assets (for example money in savings accounts) to pay it off.
On the other hand, there are clearly households that are struggling with the burden of debt. One potential sign is simply that lots of this unsecured debt is held by a relatively small group of households—10 per cent of households have debts of £10,000 or more and that same 10 per cent holds 70 per cent of all outstanding consumer debts. But even then some of those households might have sufficient income or wealth to render even five-figure debts manageable.
“Taking on debt can be entirely appropriate and in fact raise households living standards”To fully understand and track when debt is a problem to households it is necessary to look at a wider set of indicators of the economic circumstances of households. New research by the Institute for Fiscal Studies draws on a large amount of data on households and their debt holdings to try to do exactly that.
Debts can have a negative impact on living standards in a number of ways—including the psychological impact of living with the knowledge that you have them. But in economic terms the obvious immediate negative impact occurs when debt repayments take up a large share of income—crowding out spending on other goods and services households might want or need. To identify households that may be under pressure in this way, we classify a household as under “immediate debt servicing pressure” if it is spending more than 25 per cent of its monthly after-tax income on servicing its debts or if it is in arrears of two months or more with a bill or credit agreement.
On this measure, about one in eight individuals are in a household under servicing pressure—but if you focus on those in the poorest tenth of households that figure rises to one in four. This is because they are more likely to be making large debt repayments compared to their income and because they are more likely to be in arrears.
There are two reasons to be particularly concerned about those on lower incomes who are facing this kind of pressure, beyond the simple fact that the spending that is crowded out might have a bigger effect on living standards. First, lower income households under servicing pressure are less likely to have significant financial assets—such as current and savings accounts, bonds, or stocks and shares—that could be used to meet their debt payments. Second, those with lower incomes are also more likely to remain under servicing pressure once they are there.
Younger individuals look to be more at risk of struggling with debts. 16 per cent of 25-29 year olds are under servicing pressure compared to just 3 per cent of 75-79 year olds. And low-educated young adults (those who left school at age 16 or below) are particularly likely to be struggling—they are more likely to be in households that are in arrears and tend to have types of debt (for example hire purchase and mail order) that need to be repaid more quickly.
When thinking about household debt, figures about total debt holdings are no guide to the scale of “problem debt.” In fact, most unsecured debt is held by high income households who look able to manage it, but debt looks like a real problem for a significant number of those on low incomes.
