In late July 2017, Alex Brazier, Executive Director, Financial Stability at the Bank of England, warned about the risks to the wider economy that the rise in personal debt could pose. Speaking at the University of Liverpool’s Institute for Risk and Uncertainty, Mr Brazier, who is also a member of the Bank’s Financial Policy Committee, said his speech should be titled as either ‘Debt strikes back’ or ‘The return of the regulator’.
The second of these titles shows that Mr Brazier believes that, if it acts in the right way, the Bank of England can take steps to prevent another debt crisis, such as the one seen around a decade ago.
The Bank director noted that, in the past 12 months, the amount owed by UK consumers on car loans, credit card balance transfers and personal loans has increased by 10%, while household incomes have risen by only 1.5% over the same period
However, he is concerned that, given the recent good economic performance and low loan losses suffered by lenders, firms will think that they can reduce prices and loosen lending criteria. On this issue Mr Brazier said:
“The spiral continues, and borrowers rack up more and more debt. Lending standards can go from responsible to reckless very quickly. The sorry fact is that as lenders think the risks they face are falling, the risks they – and the wider economy – face are actually growing.”
He also noted that the average credit score of a new borrower was lower than was the case 12 months ago.
Mr Brazier then turned his attention to Personal Contract Plans (PCPs), which are now used to finance as many as 80% of car purchases. Some commentators believe that PCPs could become the ‘new PPI’ and that these agreements have been mis-sold on an industrial scale, but Mr Brazier downplayed the risks of PCPs damaging the wider economy. He noted that the proportion of borrowers falling into arrears on PCPs was typically lower than for other credit products, and that few large banks were significantly involved in the sale of PCPs. Nevertheless, he struck a note of caution, by commenting:
“The banks that are involved [in PCP activity], as well as the shareholders of car companies, will want to think very carefully about the risks.”
Perhaps Mr Brazier’s biggest concern was a recent loosening of mortgage lending criteria. 26% of mortgages are now granted at a loan-to-income multiple above 4, compared to just 19% two years ago.
The final section of the speech outlined some of the steps the Bank of England is taking in response to the emerging risks. These include:
• Banks must demonstrate to the Bank of England that they have appropriate safeguards in place to prevent them being drawn into the ‘spiral’ he referred to earlier in the speech
• Banks must pass rigorous ‘stress tests’, designed to ensure they have the financial strength to cope with a severe recession without needing to reduce lending
• The capital buffers banks are required to hold on their lending have been increased recently
• Borrowers are subject to an affordability test that effectively varies their loan-to-income limit for their individual circumstances
He concluded on a positive note by saying that there was “every prospect that we can make the economy a safer place than it has been in the past, and that we can stop watching endless repeats of Debt Strikes Back.”
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