Introduction
The term ‘Consumer Debt’ refers to a debt incurred for purchasing a good or service. It includes purchases made on credit cards, lines of credit and some loans. Consumer credit is the amount of credit used by consumers to purchase non-investment goods or services that are consumed and the value of these goods and services depreciates rapidly.
Consumer debt is perceived to be beneficial to the economy since consumer debt increases spending which subsequently catapults consumption thus boosting the economy. However, if debt is easily available and consumers spend in excess of their capacity, the perceived benefit diminishes resulting in an increase in bankruptcies, insolvencies and debt problems. Today, UK is in a similar situation, consumer borrowing/debt in the UK has crossed the GBP 1 trillion barrier. About 80 percent of this amount consists of credit card borrowing, loans and mortgages. The country is in crisis and government officials are taking stringent steps to solve this problem.
Background
It is important to understand the past and its influence on the present in order to formulate solutions for the future. Until now, debt worked positively for Britain. For a decade, consumers enjoyed a free-spending ride due to the availability of cheap credit. During that period, the government borrowed heavily to invest in infrastructure, health and education, creating a beneficial cycle: government spending led to job creation, which led to greater consumer confidence and more spending, which, in turn, stimulated economic growth. In the late 1990s foreign lenders entered the British market with an array of lending products.
Consequently, there was fierce competition amongst banks and lenders to capture the huge untapped consumer debt market. Consumers were faced with a plethora of lucrative offers and large scale advertisements promoting low or no interest unsecured loans and credit cards. Statistics revealed that the average British adult owned about 2.8 credit or debit cards, more than any other country in Europe. It was observed that a growing number of UK citizens borrow to pay for vacations, furniture and even plastic surgery. This eventually resulted in racking up the British household debt-to-income ratio of 1.62 compared with 1.42 in the United States and 1.09 in Germany.
In the late 1990s and early 2000 interest rates were low, the lowest base rate being 3.75 percent as recorded in November 2003. Real estate prices were on an uptrend and consumers looking at the rapid increase in valuations resorted to borrowing and ride the wave of wealth creation. The notional gain in asset was exploited by borrowing against property to meet other expenses like purchasing a car. During that period, unsecured loans and credit cards were easily available; lenders were lenient in providing loans without strict credit background checks. Thus borrowers were living under a halo of being wealthy and creditworthy. They faced the reality in the sub prime period when lending losses triggered the financial sector crisis in August 2007. Financial institutions and banks wrote off debts and reported huge losses leading to a global credit crunch. Consumers, too, are facing difficulty in managing their debt.
Some Facts and Figures
* As on February 2008, total consumer credit lending to individuals was recorded at GBP 227bn, an increase of 6.6 percent annually.
* Average consumer borrowing via credit cards, motor and retail finance deals, overdrafts and unsecured personal loans has risen to GBP 4,774 per average UK adult as on February 2008.
* According to MoneyExpert.com approximately 6.5 million people have been forced to consolidate their debts, in the past three years, in a bid to keep borrowing under control. Of the total, 1.29 million of them have moved debts of more than GBP 20,000 accumulated due to loans, credit cards, store cards and overdrafts to one lender. Further, people consolidating debts of GBP 20,000 or more are likely to be using loans secured against their house.
* According to uSwitch, the recent fuel price rises is expected to plunge a further 500,000 people into fuel poverty, bringing the total number of people caught in the trap to 4.5 million.
* According to the BBA the proportion of credit card balances bearing interest rose to 73.9 percent in January 2008.
* Total credit card debt in February 2008 was GBP 54.8 bn. The UK collective credit limit on credit cards is approximately GBP 177 bn.
* The average interest rate on credit card lending is currently 17.77 percent, around 12.7 percent above base rate (5 percent).
* More than five million people have missed monthly payments on credit cards in the past six months (11percent of credit card customers).
* Research from the Post Office reveals that at present, one in four credit card holders be more dependent on credit than in 2007. Approximately 41 percent intending to rely on their credit card for day to day living costs such as grocery shopping.
Summary
The effects of the global credit crunch are felt in the UK and the above facts and figures are an indication of the same. Overall the UK economy is on a slow down, home prices are falling and lending institutions are facing a credit crunch. Low liquidity and high cost of funds have lead to an increase in interest rates. The cost of living has also increased with prices of utilities and fuel on the rise. The strings are being pulled on household budgets and in order to meet requirements consumers are looking for credit. The credit profiles of these consumers cannot easily attract borrowing since they are already in debt, by taking loans for property. Lenders are wary and to mitigate the risk of lending are charging a higher rate of interest.
Consumers are finding it difficult to manage this situation and are opting for debt management plans or IVAs. The National Consumer Council reports that six million families in the UK are already struggling to make repayments towards their debt, and Citizens Advice reports that over the last six years, they have seen a 44 percent increase in the number of people seeking debt advice. In 2007, approximately 400,000 people entered into IVAs and debt management schemes. The need to manage debt will see the number of people taking out individual voluntary arrangements (IVAs) - an alternative to bankruptcy, which allows people to settle debts with less damage to their credit rating and employment prospects - double this year.
The term ‘Consumer Debt’ refers to a debt incurred for purchasing a good or service. It includes purchases made on credit cards, lines of credit and some loans. Consumer credit is the amount of credit used by consumers to purchase non-investment goods or services that are consumed and the value of these goods and services depreciates rapidly.
Consumer debt is perceived to be beneficial to the economy since consumer debt increases spending which subsequently catapults consumption thus boosting the economy. However, if debt is easily available and consumers spend in excess of their capacity, the perceived benefit diminishes resulting in an increase in bankruptcies, insolvencies and debt problems. Today, UK is in a similar situation, consumer borrowing/debt in the UK has crossed the GBP 1 trillion barrier. About 80 percent of this amount consists of credit card borrowing, loans and mortgages. The country is in crisis and government officials are taking stringent steps to solve this problem.
Background
It is important to understand the past and its influence on the present in order to formulate solutions for the future. Until now, debt worked positively for Britain. For a decade, consumers enjoyed a free-spending ride due to the availability of cheap credit. During that period, the government borrowed heavily to invest in infrastructure, health and education, creating a beneficial cycle: government spending led to job creation, which led to greater consumer confidence and more spending, which, in turn, stimulated economic growth. In the late 1990s foreign lenders entered the British market with an array of lending products.
Consequently, there was fierce competition amongst banks and lenders to capture the huge untapped consumer debt market. Consumers were faced with a plethora of lucrative offers and large scale advertisements promoting low or no interest unsecured loans and credit cards. Statistics revealed that the average British adult owned about 2.8 credit or debit cards, more than any other country in Europe. It was observed that a growing number of UK citizens borrow to pay for vacations, furniture and even plastic surgery. This eventually resulted in racking up the British household debt-to-income ratio of 1.62 compared with 1.42 in the United States and 1.09 in Germany.
In the late 1990s and early 2000 interest rates were low, the lowest base rate being 3.75 percent as recorded in November 2003. Real estate prices were on an uptrend and consumers looking at the rapid increase in valuations resorted to borrowing and ride the wave of wealth creation. The notional gain in asset was exploited by borrowing against property to meet other expenses like purchasing a car. During that period, unsecured loans and credit cards were easily available; lenders were lenient in providing loans without strict credit background checks. Thus borrowers were living under a halo of being wealthy and creditworthy. They faced the reality in the sub prime period when lending losses triggered the financial sector crisis in August 2007. Financial institutions and banks wrote off debts and reported huge losses leading to a global credit crunch. Consumers, too, are facing difficulty in managing their debt.
Some Facts and Figures
* As on February 2008, total consumer credit lending to individuals was recorded at GBP 227bn, an increase of 6.6 percent annually.
* Average consumer borrowing via credit cards, motor and retail finance deals, overdrafts and unsecured personal loans has risen to GBP 4,774 per average UK adult as on February 2008.
* According to MoneyExpert.com approximately 6.5 million people have been forced to consolidate their debts, in the past three years, in a bid to keep borrowing under control. Of the total, 1.29 million of them have moved debts of more than GBP 20,000 accumulated due to loans, credit cards, store cards and overdrafts to one lender. Further, people consolidating debts of GBP 20,000 or more are likely to be using loans secured against their house.
* According to uSwitch, the recent fuel price rises is expected to plunge a further 500,000 people into fuel poverty, bringing the total number of people caught in the trap to 4.5 million.
* According to the BBA the proportion of credit card balances bearing interest rose to 73.9 percent in January 2008.
* Total credit card debt in February 2008 was GBP 54.8 bn. The UK collective credit limit on credit cards is approximately GBP 177 bn.
* The average interest rate on credit card lending is currently 17.77 percent, around 12.7 percent above base rate (5 percent).
* More than five million people have missed monthly payments on credit cards in the past six months (11percent of credit card customers).
* Research from the Post Office reveals that at present, one in four credit card holders be more dependent on credit than in 2007. Approximately 41 percent intending to rely on their credit card for day to day living costs such as grocery shopping.
Summary
The effects of the global credit crunch are felt in the UK and the above facts and figures are an indication of the same. Overall the UK economy is on a slow down, home prices are falling and lending institutions are facing a credit crunch. Low liquidity and high cost of funds have lead to an increase in interest rates. The cost of living has also increased with prices of utilities and fuel on the rise. The strings are being pulled on household budgets and in order to meet requirements consumers are looking for credit. The credit profiles of these consumers cannot easily attract borrowing since they are already in debt, by taking loans for property. Lenders are wary and to mitigate the risk of lending are charging a higher rate of interest.
Consumers are finding it difficult to manage this situation and are opting for debt management plans or IVAs. The National Consumer Council reports that six million families in the UK are already struggling to make repayments towards their debt, and Citizens Advice reports that over the last six years, they have seen a 44 percent increase in the number of people seeking debt advice. In 2007, approximately 400,000 people entered into IVAs and debt management schemes. The need to manage debt will see the number of people taking out individual voluntary arrangements (IVAs) - an alternative to bankruptcy, which allows people to settle debts with less damage to their credit rating and employment prospects - double this year.
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