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Why it's important to repay our debts while we can
This week's Autumn Statement from the chancellor showed how precarious our finances are at both a national and a personal level.
by Gavin Lumsden on Dec 07, 2012 at 16:12Follow @GHLumsden
The nation’s finances remain on a knife edge.
In his Autumn Statement this week the chancellor George Osborne was accused of fiddling the numbers by Labour after he used £3.5 billion of revenues from the sale of 4G licences to mobile phone companies that haven’t happened yet to claim that government borrowing had fallen.
Analysis by the Institute of Fiscal Studies showed this helped reduce underlying borrowing for this financial year to £120.3 billion, down a smidgeon from £121 billion in 2011/12.
Such are the wafer-thin margins on which Budget success or failure is based.
Even so Osborne had to abandon one of his two fiscal rules. The country’s debts won’t be falling by 2015/16, as the chancellor originally hoped, because the Office for Budget Responsibility – the ‘independent’ forecaster he set up two years ago – believes the economy will have shrunk a further 3.6% in four years’ time. A shrinking economy means less revenue for the Treasury, making this debt target impossible to meet.
This means a prolonged period of austerity beyond the next election, making it ‘inconceivable’ to the IFS that we can avoid further tax rises and deep spending cuts if we are going to balance the books.
It’s all rather depressing and shows the huge economic price we’re all paying for the financial crisis of 2008.
Continuing the theme of our precarious finances I was struck by a table in the Treasury documents accompanying the chancellor's statement that showed the impact a rise in interest rates would have on the UK. This is significant because of the huge level of personal and public debt.
Let’s take the latter first. The main measure of the country’s debts is the public sector net debt. This is set to hit nearly £1.2 trillion (or £1,186 billion to be precise) this year, rising to over £1.5 trillion (£1,534 billion) in 2017/18.
These staggering figures represent around 75% of our gross domestic product (GDP) today rising to nearly 77% in five years, having, according to the OBR’s forecast, peaked at just over 79% in the previous year.
Do you think that’s bad? According to figures on the Credit Action website the total level of outstanding personal debt stands at more than £1.4 trillion. We, the public owe more than the government. It cites an OBR forecast that this will rise to over £2 trillion by 2017.
According to the charity, average household debt excluding mortgages stands at £5,934. Including mortgages, the figure rises to £53,912. The cost of servicing all this debt is around £60 billion a year.
Here is the alarming bit.
As we all know, interest rates have been held at an all-time low of 0.5% for nearly four years. The cost of borrowing is not expected to rise until at least 2015 but at some point it will rise, with interest rates possibly regaining the 5% level they were at before 2008.
According to the Treasury a 1% rise in mortgage rates would add £12 billion a year to homeowners’ loan repayments, ie, a fifth more than they are paying already according to the Credit Watch figures. You can see how further rate rises beyond this could cripple many households' finances.
The situation for the nation is just as bad. A 1% increase in the country’s cost of borrowing would add nearly £22 billion to the country’s interest payments over five years. A 4% rise would plonk another £90 billion on top of the nation’s bill.
I’m not saying there is an imminent threat this is going to happen. However, with Fitch, a credit rating agency, warning this week that it might drop our top AAA credit rating next year, we can’t afford to be complacent.
The lesson for your personal finances from all of this is that now is the best time ever to pay off your debts while interest rates are historically low. With savings accounts and cash ISAs paying a meagre 2-3% at best, you get a better financial return focusing your attention on your mortgage, where standard variable lending rates stand at around 4- 5%.
Of course many people have got the message. Credit card borrowing is down and there have been signs that households are prioritising mortgage repayments. But with the government set to squeeze our wallets a lot more to repay the national debt, it might be time to make an even bigger effort to reduce our personal indebtedness.
More about this:
More from us
- Fitch warns UK on AAA rating
- Pension problems Osborne has given high earners
- What the chancellor has done to pensions and benefits
- Autumn Statement: ‘No miracle cures’ as Osborne misses debt target and extends austerity
What others are saying
- Autumn Statement 2012: Treasury documents
- Credit Action: debt statistics
- Institute for Fiscal Studies: analysis of Autumn Statement 2012
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by Gavin Lumsden on Jun 14, 2013 at 16:18