All eyes on the Bank of England ahead of Thursday’s rate decision.
With inflation persistently above the Old Lady’s target, and with a couple Monetary Policy Committee members voicing their dissent over recent rate decisions, there’s an ever-so-slightly heightened chance of a hike. Still though, the vast majority of BoE-watchers expect the central bank to stay on hold. To that end, CreditSights have a Thursday note out on the relationship between the UK economy and interest rates.
The big problem, they say, is that pesky UK consumer:
… The sector with by far the most sensitivity to interest rates is the consumer. A Dramatic expansion in UK households’ debts (particularly mortgages, which tends to be floating or short-term fixed rate) over the past decade, means that consumer disposable incomes have developed an alarming sensitivity to interest rates. In the eight and a half years from the start of the 2000s to the middle of 2008, UK households increased their total debt burdens by 133%. As a percentage of gross household disposable income, total borrowing rose from 99% to 161% … UK households have gone from making net interest payments of £19.4 billion in 2007 to just £2.2 billion or 1.8% to UK household’s gross disposable income. We estimate that a 50 bp rise in interest rates would result in a £7.5 billion increase in interest cost for borrowers, equivalent to a 1% drop in gross disposable income. That increase in interest expense for borrowers would be offset by a rise in interest income for savers. But the marginal propensity to consume for the borrowers will be higher than for the savers, and so any offset will be only partial.
You see the problem? There’s something perversely pleasing about the UK central bank’s hands being tied courtesy of the debt bubble it arguably helped to inflate.
On which point — a bit more from CreditSights:
… UK households are still very leveraged both by historical standards and in comparison to households in other countries. Since the second quarter of 2008, UK households’ total debts have dropped from 161% of household gross disposable income to 151%. In the US household debt is down to 118% from a peak 130% at the end of 2007. While US household debt levels do not necessarily tell us where UK households are headed it is worth noting that between 1993 and 2000, UK consumers; debts to their gross disposable incomes were, on average, only 5% greater than in the US, that gap is now 33%.
We believe that UK consumers will continue to look to reduce their debt-to-income levels. And in the absence of rapid income growth, that will mean further debt repayments. UK households have already reduced their unsecured borrowing by £13 billion over the past year, equivalent to a 7% reduction in unsecured credit outstanding. While unsecured borrowing represents only a tiny portion of UK households’ total debts, 15%, it feeds straight through to consumer expenditure. At its peak in 2008, consumer borrowing was boosting disposable income by 2%, over the past year the repayment of debts have reduced disposable income by 1.4%. We believe that this deleveraging explains why consumer spending is growing so slowly versus what would be suggested by the historical relationship between consumer confidence. year-on-year changes in unemployment and consumer spending.
That leaves the BoE facing an economic recovery that’s (still) extremely dependent on low interest rates, at the same time as sticky and volatile commodities prices.
And it leaves most Britons people facing an interest rate shock or inflation.
(The Bank is set to publish its decision at noon, London time)
Related links:
A 75bps rate rise could cost consumers £6.2bn, Deutsche says - FT Alphaville
Get ready, get set, deleverage! - FT Alphaville