The International Monetary Fund is worried. Yes, it’s true that it always is, but this time we should be, too — or at least, those of us living in Britain.
The IMF recently published a research paper that confirms something we’ve known for a while: there is a negative relationship between the growth in the debt of households in a country and that country’s future economic growth.
In other words, the more households borrow, the slower that country will grow. This is mainly because when people borrow, they bring future consumption into the present, so therefore will consume less in the future.
Besides this, household credit booms create a higher future probability of banking crises, the IMF paper shows, as more borrowers default when the economy slows.
There is also the fact that during booms, the possibility of a crash is neglected, so when a market crash does happen it takes people by surprise and causes more damage as they panic and take bad decisions.
So far, central banks have managed to mitigate the negative effects of increasing debt by lowering interest rates to ease the burden on consumers, but it looks like they’ve reached the limit of what they can do.
The IMF’s research paper analysed 80 countries, of which 39 advanced economies and 41 developing ones. The mean household debt to GDP ratio across the sample was 35%, while the mean annual increase was around one percentage point.
By comparison, mean corporate debt to GDP in these countries was around 60%, rising at less than one percentage point per year, while the average public debt to GDP was 52%, increasing by two percentage points annually.
In aggregate, the percentage of household debt to GDP still seems relatively low. The IMF paper does not break down this percentage per country, but other sources give an idea of its magnitude for various countries, so let’s look at the UK.
The statistics website tradingeconomics.com puts British households’ debt to GDP at 86.5% in the third quarter of last year, down from 87% in the second quarter, while FRED, the St. Louis Fed’s database, puts it at 92.4% in the second quarter of 2017.
If you think this is not scary enough, read on.
The UK’s Office for National Statistics (ONS), in its quarterly sector accounts for the fourth quarter of 2017, revealed that British households became net borrowers rather than net savers last year for the first time since records began back in 1987.
The annual saving ratio fell to a record low of 4.9% last year, with households spending faster than the pace of increase of their income.
These data, combined with the warning signal contained in the IMF’s research paper, paint a troubling picture for the UK economy going forward: even without the uncertainty of Brexit, the economy is on a slowdown trajectory that is likely to intensify.