Monday, May 27, 2024

Walking the Fine Line Between Consumer Confidence and Irrational Exuberance

As the UK economy continues to lurch down a frequently bumpy road, striving to keep the last financial meltdown in the rearview mirror, British consumers are doing their part to plump up the economy. Banks and other financial services providers are trying to make things easier for consumers through lower interest rates and the return of no-deposit residential mortgages, though of course they are motivated by their own bottom lines. All told, the economy today is very much a mixture of good news and bad news, but it can be mostly good news to consumers who are smart about spending and borrowing. The trick is to strike a balance between confidence and irrational exuberance, and that isn’t always easy.

Brexit, Schmexit: uncertainty hasn’t stopped Brits from whipping out the plastic

For many months the Government and various media sources have been making a big fuss about the anxiety over the EU referendum in June, with the Government claiming that the uncertainty over Brexit has been hurting the economy. But you’d never know that from the behaviour of British shoppers, who spent a record £9.6 billion on credit cards in April, according to the British Bankers’ Association. The uptick is an indicator of growing consumer confidence, which at this point apparently hasn’t quite crossed the line to irrational exuberance, being that consumers appeared to be spending within their means. Borrowers for the most part have paid back what they owed and credit card debt on the whole didn’t increase in April.

But it’s not all cheery news. Despite the seemingly good news in April, the total burden of credit card debt and other types of personal debt have risen over the past year. Economists have warned that this level of borrowing “cannot be sustained in the long run,” and ultimately, those debts will have to be repaid. According to the Office for Budget Responsibility (OBR), if the current trend isn’t reversed, UK households are on course to spend more than they earn for the rest of the decade.

In order to avert the inevitable crisis should the trend continue, there is a good chance that the Bank of England will find it necessary to take measures to discourage consumers from incurring more unsecured personal debt, such as (finally) raising the interest rates. Sir Jon Cunliffe, the Bank’s deputy governor for financial stability, has made it clear that policymakers remain “vigilant” to risks, and that they will act quickly if there are indications that credit growth is approaching unsustainable levels. The Financial Policy Committee, responsible for maintaining UK financial stability, has already taken steps to rein-in mortgage lending, and will probably be assigned the authority necessary to slow activity in the rapidly growing buy-to-let property market.

Moreover, consumers are still struggling to save money, which further exacerbates the problem. Historically, April has been the month in which the highest levels of savings have occurred, but in April of 2016, savings in tax-free Isas amoumted to only £2.1bn: the lowest level in the British Bankers’ Association’s records, which have been documented since 2006.

So while it’s encouraging to see people out shopping again, it would be wise for all of us to occasionally glance at that image in the rearview mirror, and check to see if it is drawing closer. As George Santayana so wisely stated, “Those who fail to learn from history are doomed to repeat it”.

Good news for borrowers, but with a few caveats

As indicated above, however, it’s not all bad news for consumers. Although interest rates will inevitably rise sooner or later (as we’ve been hearing for a couple of years now), they’re at record lows right now. And “right now” pretty well describes the priorities of people for whom credit has been unavailable for a long time. As improved credit opportunities came about at what is generously described as a glacial pace, lenders responded by coming up with lending plans that meet the needs of even those would-be borrowers who have less-than-perfect credit histories.

Given the overall uncertainty of the economy as well as the additional risk inherent in lending to such borrowers, interest rates for some of these loans have been higher than those charged for more traditional loans. Lenders have adjusted the amount of interest and fees charged to remain competitive, so it behooves the prospective borrower to carefully evaluate the rates and terms offered by different lenders to find the loan that best suits their needs. Websites such as provide the means to obtain a side-by-side comparison of different types of loans from multiple lenders, saving borrowers from the potentially arduous process of doing a comprehensive comparison on their own.

Beware of offers that sound too good to be true

In every market, when demand outstrips available supply, enterprising businesses will rush in to fill the void in hopes of increasing their bottom line. The lending industry is no different, and in response to credit being essentially unavailable from traditional lenders following the financial crisis, alternative lending sources and products appeared to fill consumers’ needs.

Unfortunately, not all the newly-established lenders and plans were particularly good for the borrowers, and many people who availed themselves of the new credit found themselves in a credit quagmire in short order. Eventually, the government stepped in with regulatory stipulations that served to weed out the more unscrupulous lenders and the credit traps they had laid. The companies that remained have proved highly profitable, which naturally drew the attention of the traditional lending institutions who saw millions of pounds slip through their fingers and into the upstart businesses.

Even such venerable institutions as HSBC, Lloyds Banking Group, Barclays, and the Royal Bank of Scotland have begun offering some of the higher-risk but higher-profit margin loans that had previously been provided only by the alternative lenders. And some analysts see this as a march toward the same kind of high-risk lending that had done such great harm to the world’s economy less than a decade previously. For the borrower, it becomes more essential than ever to fully understand the finer points of any debt before incurring it. The once-valid assumption that a specific credit product is a good choice because it is offered by a well-known and trusted institution might no longer be correct. It is up to the consumer to educate him or herself before taking on additional debt.

By all means be a confident consumer, but do so with an eye to your future solvency. Be a smart buyer and, whether you’re looking for a mortgage, a car loan or a personal loan, be a smart borrower. And if you’re not saving, do whatever you can to start doing so. Brexit or not, much of your financial future is in your own hands.

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