The bomb underneath the banking system….

Tuesday 11th April 2017

The bomb underneath the banking system….

What you see depends on where you look….

The UK economy grew by 0.7% in Q4 of 2016. The national current account deficit halved. Sterling’s slump has boosted exports – narrowing the shortfall between trade payments and income.

The stock-market rides high. Unemployment is at a decade-low.

Ex-prime ministers command six-figure sums for speeches. Bankers and corporate executives rake-in big salaries….

Looking over there, things seem good. Closer to home, disaster looms….

  • The squeeze….

The man-on-the-street is not in demand for lucrative speaking engagements. He’s finding things tough.

Prices are rising. The price of everything rose quicker in February than at any time since 2013. And you can expect prices to continue to rise going forward.

Last week, market research company Kantar Worldpanel said grocery prices rose 2.3% year-on-year in the 12-weeks to 26th March.

Rising importation costs haven’t been fully transferred to consumers. That process is in-train. The pound is weak. It could get weaker. Things will get worse before they get better.

The squeeze is on. Households are pinched. Already there are signs of distress – and the consequences could be dire….

The way British households are responding to tougher economic conditions has the potential to blow the British banking system sky-high….

  • Disturbing figures….

Last week, the Office for National Statistics (ONS) published disturbing figures….

Household spending rose by £2 billion in Q4 of 2016 –  profligacy not seen since before the 2008 global crisis….

Disposable household income fell by 0.4%….

The household saving ratio – the amount households have available to save as a share of disposable income – dropped from 5.3% at the end of Q3 to 3.3% at close of Q4. That’s the lowest rate since 1963….

Household borrowing rose in Q4 2016 to the highest quarterly-level since 1987.

Put short: households are raiding savings and borrowing money to pay domestic costs as prices rise.

And all this happened before prices really took off in February….

  • Talking heads….

The news acted as cat-nip to the talking-head brigade….

The media wheeled them out and they delivered the familiar blend of rebuke, unsolicited advice and pap…

John Hawksworth, chief economist at PricewaterhouseCoopers….

‘The UK consumer increasingly appears to be living beyond their means and this cannot continue forever….’

Rachael Griffin, financial-planning expert at Old Mutual Wealth….

‘A worrying number of households do not have any sort of cash-savings to protect against financial difficulty if life throws unexpected challenges at them. Building up a cash buffer to cover at least three-months of essential spending is a sensible first step….’

Frances O’Grady, general secretary of the TUC….

‘[These] figures should set alarm bells ringing. The last thing our economy needs right now is another consumer debt crisis….’

  • Back in the real world….

Of course, these people merely pad-out column-inches or fill air-time between commercials….

The man-on-the-street isn’t listening. If he is, he doesn’t hear. He certainly won’t act on the advice of the TUC general-secretary or some city-bound financial-planner.

The man-on-the-street isn’t incentivised by a big abstract idea like ‘the economy’ or what it might require of him.

He is incentivised by his own immediate needs. His own interests are paramount – first, foremost and always.

The idea that he must tighten his belt and make-do with fewer trinkets for the sake of monthly figures published by some government department has little chance of gaining traction.

If money is available to borrow and spend, that money will be borrowed and spent. Only when the spigots are turned off will the average householder quit returning to replenish his bucket.

That’s a real-world money truth. All the talking heads won’t change it – no matter how many pithy soundbites or hollow slogans they concoct….

  • Banks in the spotlight….

The Bank of England knows how things work….

The latest Financial Policy Committee’s meeting concluded that rapid growth in consumer credit, underpinned by accelerated credit-card borrowing, was one of the main threats to the entire banking system….

In other words, if or when the risky debt goes bad, banks could be at risk….

And we all know what happened last time. The public wrote a big cheque to bail the banks out.

The BoE chose not to censure borrowers. It turned the spotlight onto the banks instead.

‘An easing in credit supply conditions appeared to have contributed to the growth in consumer credit, with intense competition in some segments of the market….’

In plain English, the BoE believes banks are making it too easy and too cheap for consumers to borrow money they may not be adequately provisioned to repay….

Last month consumers spent £562 million on plastic. Families now owe a record £67.3 billion on cards. The BoE is worried….

Consumers are finding it difficult to wean themselves off a borrowing cycle that began almost 10-years ago when the BoE started running with its policy of ultra-low interest rates….

Curiously, there was no mention of that in the BoE synopsis. Or the part those low interest rates might have played in constructing the bomb that the BoE now asserts might detonate and bring down the entire banking industry.

We’ll assume this omission was some kind of administrative oversight….

  • The bomb grows….

Consumers are feeling the squeeze. The squeeze will get tighter. Prices are rising but wages aren’t keeping pace. Savings are diminished but householders are disinclined to accept lower living standards. Meanwhile, credit is cheap and available….

Banks are businesses with shareholders. They must produce profit. After a decade of low-interest rates that shredded the bottom line, banks want to continue feeding demand for credit….

They are coming under BoE pressure but are under no obligation to listen or conform. Mark Carney has admitted it would be a ‘big call’ for the BoE to rein-in consumer lending….

My bet is that consumers will keep borrowing and banks will continue to lend. The BoE will watch on – impotent and focused on covering its own backside. Warnings will be ignored. The spigots of easy credit will remain full-on.

Neither borrowers nor lenders are blinking. Consumers want easy cash. Banks are happy to lend. The consumer debt bomb will get bigger….

  • The fuse is lit….

The BoE says banks could face consumer loan losses of £18.5 billion in a sharp economic downturn….

Many consumers are already struggling. Step Change say a record 600,000 people asked for help with debts last year….

Many consumers have no financial buffer. A House of Lords committee says 40% of working-age people have less than £100 in savings. They are one unexpected bill away from disaster….

Many consumers are already hopelessly over-burdened. The Financial Conduct Authority says it’s identified 5.1 million credit cards that will take 10-years to clear. That’s 17% of cards in existence. And the figures don’t factor in additional borrowing.

Many consumers are barely hanging on. In a sharp down-turn many would go under – owing the banks but unable to pay.

The fuse is lit. Will the bomb-blast – if or when it goes off – be sufficient to bring down the entire British banking industry?

Who knows? But we are currently headed for a showdown-scenario where we will find out.

Banks and consumers are playing a dangerous game. People will get hurt. When the music finally stops, there won’t be enough chairs to go around.

That’s how it looks from here….

I’ll be back on Thursday with news on something special. Look out for me in your inbox.

All the best,

Dave Gibson

Money Truths