Low-income households have seen the fastest rise in the use of consumer debt since the financial crisis, and are too exposed to financial shocks.
The proportion of low-income households using some form of consumer debt rose by 9% (from 53% to 62 per cent) between 2006-08 and 2016-19 – a far steeper than the 1% rise (to 64%) among high-income households.
The findings are from a new report by the Resolution Foundation, which explores changes in the use of consumer debt – including credit cards, store cards, mail order and hire purchases, and car finance – over the past decade, including where it has grown fastest, and what it means for households’ financial resilience.
This rising use of consumer debt has been concentrated in products with high interest rates that have not got cheaper over the past decade (unlike mortgage debt, which low-income households are less likely to have taken on).
Credit card use (with an average quoted interest rate today of 20%, up from 15% in 2008) among low-income households grew by 13% between 2006-08 and 2016-19. The use of overdrafts (with an average quoted interest rate of 15% to 20%) grew by 4%.
Fears of another debt-fuelled financial crisis are overblown
The report notes that common fears of another debt-fuelled financial crisis are overblown. Overall consumer debt levels remain significantly below pre-crisis levels (15% of total income last year, compared to 19% in 2008), while historically low interest rates have driven down the cost of debt.
For example, the average rate for a two-year variable rate 75% LTV mortgage fell from 6.1% in April 2008, to 1.4% in April 2017.
However, this does not mean that policy makers should relax about household debt, says the Foundation. Instead, they should focus on the rising use of consumer debt among potentially vulnerable groups, and the types of credit they are using.
Low-income households far too exposed to future financial shocks
The Foundation says that a decade of falling interest rates has not seen falls in low-income households’ exposure to debt, not least given the wider squeeze on incomes during this period.
Typical debt repayments as a share of income have remained at around 8 per cent since the financial crisis – three times higher than it is for the richest fifth of households.
This, combined with a 15% rise in the share of low-to-middle households who have no savings, leaves them far too exposed to future financial shocks.
The report notes that already more than half (53%) of low-income households with consumer debt reported difficulties in meeting accommodation costs in 2016-19, up from one-in-three households in 2006-08. These difficulties are more than twice as common in low-income households that have consumer debt compared to those that don’t (53% compared to 22%).
The Foundation says that greater access to consumer credit can be an important benefit for low-income households, though the kinds of debt households are taking on needs closer scrutiny.
This is especially true when debt repayments are combined with rent or council tax arrears, and a lack of savings for families to fall back on – which together can test a household’s financial resilience.