The rise in borrowing in May suggests that consumers are borrowing more and saving less to protect their lifestyles from the surge in inflation. However, the rise in borrowing was only small, suggesting that households are cautious about taking on extra debt. As a result, we still expect GDP to shrink by 0.5% q/q in Q2.
Net consumer credit rose by £0.8bn in May, a little below its pre-pandemic average of £1bn. This was evenly split between higher credit card spending and other loans. Households still managed to deposit about £5.7bn in bank and NS&I accounts in May. Those deposits are above the average monthly net flow of £5.6bn during the 12-month pre-pandemic average, but below the £6.3bn saved in April of this year.
In aggregate, households have extremely strong balance sheets so they’re able to manage a drop in savings and a rise in borrowing. In fact, don’t be surprised to see higher borrowing and lower saving over the rest of the year as the cost-of-living crisis starts to bite – it’s one reason why the UK should just about avoid a recession.
Normally, a rise in consumer credit is a good indication that consumption is growing strongly because it tends to expand when the economy is good. People feel confident enough to borrow and splurge on big-ticket items, such as cars.
This time may be different, though. A rise in consumer borrowing over the next year is more likely to be a sign that high inflation is driving consumers to maintain their lifestyles by borrowing. Right now, household balance sheets are in a much stronger position than before the pandemic. Households paid off about £25bn of consumer credit and accrued excess savings of around £250bn during the lockdowns, and the early evidence suggests consumers are borrowing more and saving less to prop up their spending.
To put that savings amount into context, UK households spent about £33.5bn on electricity and gas in 2021, so a 50% rise would see them spending an extra £17bn.
Middle market borrowing remains subdued
UK non-financial businesses repaid £2.1bn net from banks in May, compared to extra borrowing of £2.1bn in April. Net borrowing by large non-financial businesses was -£1.9bn in May, compared to borrowing of £2.6bn in April. Small and medium sized non-financial businesses (SMEs) repaid £0.2bn, on net, compared to a £0.5bn net repayment in April.
The net loan repayment by SMEs in April marked the thirteenth consecutive month of net repayments. So, while large businesses are taking advantage of easy access to credit and negative real interest rates, middle market businesses are still reducing leverage.
This result tallies with our Q2 MMBI report, which found that a majority of middle market businesses were reducing their debt levels. However, with inflation set to average 9% in 2022 and 6% in 2023, real interest rates will remain negative for a long time yet. In reality, this will create an environment that’s conducive to borrowing for investment.
Little sign of a cooling housing market
Meanwhile, there was not much evidence of a slowdown in the housing market. Net borrowing of mortgage debt by individuals increased to £7.4bn in May, up from £4.2bn in April.
Approvals for house purchases, an indicator of future borrowing, ticked up to 66,200 in May, from 66,100 in April. Admittedly, house prices are unlikely to maintain their current momentum as rising interest rates put the squeeze on affordability. But there’s little reason for concern about a slump in house prices, given the huge run up in prices over the last two years and the strength of household balance sheets.