Misunderstanding demonetises debt analysis

The Economist –

Owen Jones, who mainly works for The Guardian, is an excellent and influential writer, but we feel duty-bound to comment on an article he wrote just before Christmas.

Plenty of people are saying at the moment that Britain’s household debt is getting out of control. The Bank of England released new figures on January 4, 2016, showing that mortgage and credit-card lending is growing rapidly.

Mr Jones weighed in to argue that the “latest figures confirm Britain’s supposed economic recovery rests on a personal debt time-bomb. When it runs out is unclear, but run out it will.”

Serious misunderstandings

It proved to be a popular article, but it is necessary to point out some serious misunderstandings.

When George Osborne became Chancellor of the Exchequer, Britons were spending £67 billion less than they were earning; according to the Office of Budget Responsibility, they now running up a £40 billion deficit.

The implication here is that Mr Osborne has caused this reversal; that his poor management of the economy has forced people into debt. However, this kind of reversal is to be expected as you move out of a recession (as Britain was when Mr Osborne came to power).

When times are tough, people save because they are scared about the future. They would rather pay down their debts than take on new ones. Also, banks are not very keen on lending. But when the recovery happens, people feel happier about borrowing.

The implications

The implication from Mr Jones, of course, is that Britons are in more debt than ever (thanks to Mr Osborne). Indeed, that is what he ends up saying: “Earlier this year, the Centre for Social Justice (set up by Iain Duncan Smith) reported that total household debt had soared to £1.47 trillion, the highest level ever.

Reporting the figures in nominal terms is poor practice. (Simon Wren-Lewis of Oxford University has a good analogy with cinema box-office receipts: “We are always breaking records,” he says). Better to report the figures in inflation-adjusted terms; but better still to report them relative to the incomes that need to service them. By that measure, household debt has fallen by about 20 percentage points since the end of the recession.

And what’s happened more recently does not seem too bad either.

Misunderstanding demonitises-Debt as Percentage WebIf total debt has recently increased by £40 billion and the total now sits at about £1.5 trillion, then the debt pile has grown by roughly 3%. That is roughly speaking, the same rate at which earnings are growing.

So, when adjusting for income, British household debt is not really growing at all. That £40 billion ‘deficit’ does not seem quite so bad.

In 2013, only three other countries out of 53 surveyed had higher total household debt; per capita, Britain came 11th.

Something odd

The first fact is entirely meaningless, obviously, since the British economy is a large one. So total household debt in Britain is bound to be fairly high up the global rankings (above Britain are China, Japan and America). On the per-capita ranking, Britain is not low down but neither is it a basket case.

Then the article gets quite odd.

Rather than build a new economy based on investment and the industries of the future, Osborne made a strategic decision to commit to a failed model of debt.

As we have written many times, British public investment is far too low. However, some people argue that it was even lower during the last Labour government. It is not a uniquely Tory problem. As for the ‘failed model of debt,’ what is that? How did Mr Osborne ‘commit’ to such a model?

Abandoning the long-term economic health of the country for political gain (and indeed it was essential to getting the Tories through the May election) is contemptible.

People getting into debt was essential for the Tories to be re-elected? Why? Are more indebted people more likely to vote Conservative? And how does Mr Osborne have the power to get people into debt? (And anyway, household debt to income was falling in 2010-2015).

Solutions needed

If Labour has a New Year’s resolution, it should be to concentrate above all else on an economic alternative that resonates. How do we increase productivity? How do we encourage companies to invest? How do we nurture new industries in, say, hi-tech and renewable sectors? How do we shift the economy away from its dependence on a boom-and-bust finance sector?

This is unobjectionable, but hardly is it proper economic policy. It is more a general wish-list. Would any sane politician not want any of these things?

We think it is worth pointing out these mistakes, not for their own sake but because British economics commentators (on both left and right, viz  Niall Ferguson) need to get better at criticising the economic decisions of the government.

The government is making plenty of bad ones, from the failure to loosen planning policy to allow more housebuilding, to underinvestment, to presiding over poor export growth, etc. But if you’re going to critique them you need to get the facts, the theory and the logic straight.

The above article is a verbatim reproduction from ‘The Economist’ of January 5, 2016.

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