It was only on the 23rd of last month that I looked at cracks becoming fissures at the Bank of England. It is in the news again but before we get to the land of confusion that is the current state of Forward Guidance let me take you back to one of the earliest themes of this website. It was the large gap between official interest-rates and those both paid and faced by the ordinary individual. I was reminded of that as I read about the Institute of Fiscal Studies report on student loans.
The use of RPI + 3% during study – currently 4.6% nominal but soon to rise to 6.1% in September – results in students accruing £5,800 in interest during study.
Students may quite reasonably wonder at the expanding gap between the rate of interest they are liable for and the 0.25% Bank Rate of the Bank of England or a thirty- year Gilt yield that has spent quite some time below 2%. Part of that is something we have looked at many times before where the “not a national statistic ” RPI becomes useful to the establishment because it gives a higher number. According to the IFS this shuffle between RPI and CPI if combined with the other changes might cost higher earners £40,000 although there are various assumptions involved there including the one that the debt gets paid.
It was only a few days ago that I looked at the ongoing rise in unsecured credit. Whilst some of it reflects cheap car loan and leasind deals I noted that credit card interest-rates at 18% are pretty much where they were before all the interest – rate cuts. As were the loans and advances in the other categories. Of course we face a contrary situation where some get offers of 0% to lure them in as others pay the 18%.
Secured Credit
This is another problem area for Bank of England Governor Mark Carney after his extraordinary claim that car loans are secured debt. I do not know if the Daily Mail is correct to claim that cars worth £20,000 are being offered to the unemployed, those on low wages, or those with poor credit ratings. But I do know that the area of sub-prime lending needs to be closely looked at.The amount of so called PCP or Personal Contract Plan lending has soared meaning car loan debt has rien from £28 billion in 2012 to £58 billion and rising fast in 2016.
This area is especially awkward for the Bank of England as its surge has pretty much coincided with its Funding for Lending Scheme which was supposed to boost lending to smaller businesses. Did they mean car dealerships?
A Lost Decade
As we mull the fact that the last Bank of England interest-rate rise was 10 years ago today I note that policymakers are currently engaging in a tug of war on the subject of interest-rates. On the one hand we have Iam McCafferty who is having a third go at trying to raise interest-rates. Third time lucky? Whilst indulging in the current policy maker fashion of a trip to Wales he told the Daily Post this.
“We made the last interest-rate cut from 0.5% to 0.25% after the EU Referendum result when it was felt a stimulus was needed. Since then the economy has not slowed to the extent we feared last summer and meanwhile inflation has been high.”
He thinks it would be “prudent” to raise rates and “that there is a need for change ”
When Doves Cry
The ying to McCafferty’s yang has come from former hedge fund manager Gertjan Vlieghe. In an interview with the Independent he admitted that he had been wrong about both UK consumption and investment but I will add that he is also wrong about this.
“All of the decisions that have been made over the last few years have related clearly to the data.”
Sadly he was not asked what data justified last August’s move? The simple truth is that it was a self-inflicted panic move.
Looking ahead this bit revealed Gertjan’s true thoughts
You have very weak wage growth for households
Comment
It is fascinating to look back to an interest-rate rise from 5.5% to 5.75% isn’t it? That move a decade ago looks now like it was from one of those reversed universes that the crew of the Starship Enterprise visited every now and then. As to now I note that the Financial Times tells us this.
The Bank of England is now closer to a rate rise than any time in the past 10 years
That is not what it was telling us when it was telling us that Mark Carney was “rockstar” central banker and he was giving Forward Guidance about interest-rate rises “”sooner than markets currently expect”!
If we look at this week’s data I note that whilst the UK economy is growing all of tbe PMI numbers for June were lower than for May. They suggest the economy is growing at a quarterly rate of 0.4%. If we add in this morning’s update that productivity fell by 0.5% in the first quarter of 2017 I think the Bank of England will find plenty of excuses not to raise rates.
Notayesmanseconomics's Blog 
Max Keiser has a good name for the vast chasm between what one group can borrow at compared to another -“interest rate apartheid”.
In the very unlikely event of the Bank of England succumbing to pressure for higher rates, they will increase them by just a quarter at a time, and then wait……..and then wait with at least six months before considering whether to raise again -or cut again!
This way it could be 2 or 3 years before there is even a rise of 1%, which in the grand scheme of things is nothing,that’s exactly how I see Carney playing this.
Hi Kevin
I agree that the significance of a 0.25% increase in interest-rates is being overplayed. After all today’s date reminded us that the cuts began from 5.75% and therefore have totalled 5.5%. Therefore a 0.25% rise would still be looking at the foot hills especially as it is only reversing last August’s mistake.
My old boss used to say – never confuse motion with progress…
Just saw this on the BBC about the young being loaded with the most debt on the entire planet if they want a degree which is now almost a pre-requisite for an interview.
http://www.bbc.co.uk/news/education-40493658
Got to pay £57,000 to become a nurse or a copper .. or to get a BA in Business Studies from a failing Polytechnic to get that supervisors role in a call centre.
And the debt slavemasters are charging 6.1% to the younglings for this once in a lifetime wonderful offer.
Need to print this debt away as these kids aren’t going to be consuming, buying over priced housing or funding old age care with this albatross around their necks.
Can’t help but think Corbynomics is worth a try as the only other option on offer, that being the status quo just makes things worse. Then when Labour completely destroy the economy by handing out far too much we can start again!
Sex Pistols – No Future (god save the queen)
Excellent summation of the situation Arthur.
I should say this doesn’t apply to Scottish its only the English youth who are getting financially raped to this extent.
English taxpayers covering the costs of Scottish fees and part of the Welsh … couldn’t make it up could you.
Financial apartheid.
young IT graduates could earn similar money anywhere in Europe – despite widely varying costs of living. Beats me why so many stay in the UK.
Same with study, why not go abroad and study for a fraction of the cost in Europe ?
In looking at the interest rates on student debt, I couldn’t help noticing that the IFS also estimated that 77% would never be repaid, which makes the level of interest rather academic.
I would ask a different question, namely “What is the point of creating all this debt when you know that most will never be paid back?”.
I wish that we had a system like Singapore where large fees are charged for students, but 20% is written off for every year the graduate pays taxes from full-time employment. This prevents students from free-riding the system to go abroad, but also avoids the mess that we have got into.
“What is the point of creating all this debt when you know that most will never be paid back?”.
Because banks make profit from it, and when it all goes bad, as it inevitably will, the government writes it off with taxpayers money(all US student debt is guaranteed by the government).Banks win both ways.That’s why.
BINGO!
you have just gotta hand it to our Banking Masters
Forbin
You have ruined my afternoon (because you are spot on and I forgot that the mantra is always “think of the effect on the banks and you will get the answer”)
Hi Shaun,
Great article as always. As others have commented the use of RPI on student loans is appalling. Normalising the acquisition of debt at an early age.
wrf credit card debt. I am now part of the problem. We recently made a big ticket purchase, and used the credit card rather than our savings. 22 months interest free. I wonder how much of the debt is similar to ours?
Also the boe are looking at long term 0% rates. No doubt they’ll be banned to make the debtors pay more.
thanks
Anteos, this your big chance to reset the economic system. Pay back the total amount borrowed before the 22months are up and your bank will go bust. I kid you not, challenger banks have been buying this debt and counting profits on the basis that you will be paying 19% from the 23rd month. When you pay it all back they’ve no profit, worse they’ve consumed it already.
Please please tell me you’re joking!
Hello Shaun,
The BoE is in lock step with the FED . They know if the FED raises rates they will have to do the same.
the UK economy doesn’t matter to them , at all , ever .
Forbin
Hi Forbin
I am not so sure that the Bank of England will follow the Fed this time around.
In 2011 the BOE “looked through” an increase in the RPI to well over 5%. This was justified because it was seen as a one off impulse which would have no second round effects as wages had been subdued for some time; inflation would quickly return to normal and this is indeed what happened. This may not have been according to their mandate but it was a practical and sensible decision which I assume most folk in the BOE went along without demur. They may have been criticised for not following their mandate but they would have received far more criticism if they had put rates up and sent us into recession.
I cannot see any difference between the situation then and now and an interest rate rise would not be appropriate; in fact it is less appropriate now than it was then because both the UK and ROW economy is looking rather softer. So, with all these calls for rate rises, quite why we have a sudden outbreak of rectitude on inflation I cannot understand but I’m afraid that the BOE has lost all credibility as you would agree.
As far as unsecured credit is concerned it is Economics 101 that the cheaper a commodity the more people demand and to reduce rates to zero and somehow expect that there won’t be bubbles or similar problems really takes the biscuit and their absurd meanderings on these things beggars belief from a major public body.
Difference between now and 2011 is the masses of non asset owners have woken up and can now see that ZIRP and QE is enriching the few at their expense.
Certainly won’t be my economy suffering if they raise rates. FFS if people can’t live with 2/3% interest rates they deserve to go bankrupt … especially when they’ve had so long to pay this debt down.
Just to be clear on student loan interest rates:
RPI + 3% while at university
after graduation
RPI if earning less than 21K, then sliding scale up to
RPI + 3% if earning 41K or more
Standard repayment rate is 9% of earned income over 21K
A naive calculation shows that for a total loan of 50K and RIP at 3% you’d need to be earning over 54K before you start paying off the capital.
Oh, and any missed payment (including from abroad) potentially makes you liable for the entire amount immediately.
one missed payment ?
the brain drain this causes means the good ‘uns will not becoming back
as pointed out Scotland and Wales get their fees for free
Forbin
Working abroad is covered explicitly in the student loan agreements, so aspiring non-payers would have to avoid countries such as the USA where bi-lateral arrangements are in place.
The Scottish university fees are £1820 per year for Scottish & EU students, often covered by a grant – the UK government opted out of applying the EU rules which would have included other UK residents in this fee structure. Scottish students can also apply for a grant to cover their fees at non-Scottish EU universities. Living costs are covered by a loan system.
RIP -> RPI in my previous message ( I was at my son’s graduation on Monday, so not sure what that slip might imply… )
Hi arrbee
If it was one of those optical illusion tests then it worked as I missed it.
Shaun, this is a very hot topic on the FT, an article or two each day for the past week. Mark Carney, the BoE and their policy on interest rates. As you amply highlight, there has not been a rise in nearly 10 years and MC’s modus operandi is to pump up house prices, Canada and here in Blighty, it has made him a rockstar!
However we are at the inflexion point, which is so exciting. The math of the debt monster has overwhelmed “the system”. An FT commenter made a useful insight, in 2007 Govt interest payments were circa 6% of GDP, today they are similarly 6% of GDP, now if that relationship is true then it is very plain that any interest rate rise is intolerable for Govt. So you can forget homeowners, PCP car buyers, credit card overstretchers etc, it is our Govt and nation which cant afford IRs to go up.
I see it un-ravelling though, assume no rises in the short term. House prices are already falling in the UK (very inconvenient) Estate agents and the crony media won’t report it for fear of componding the situation. This asset class affects foreign investors, you can’t have their inflows without pandering to their needs. Sterling can be left to reach parity with other main basket currencies however its a double whammy for folk who converted to sterling to invest in London and other key city apartments, their asset and its convertibility both fall in relative value. The only upside is for new overseas investors but who wants to join a falling market?
So imported inflation and a potential sterling rout will force Carney to raise rates this autumn. Its really down to whether he can get away with only matching the Fed but if Brexit woes continue to dog the prospects for the UK he will have to provide a risk/return IR premia, say 1.5%. Then banks will have to pay rates on deposits and then folk will seek to exit falling asset values for liquid cash which is a feedback loop.
I hate to say it but this has the characteristics of a very unstable period coming up. The CB’s and “look the other way” politicians should get the critiism they deserve not just from this audience but the whole country.
You are assuming that the banks would raise their savings
rates in line with any increases, historically that might have
been usual but in my view it seems less likely to be the
case, here and now.
Interesting comment JRH, but they would riase their lending rates right?
You’re getting the hang of their cunning plan!
wow,
just think of the bonus opportunities of permanent low ‘costs’ and ‘runaway’ lending rates – fabulous margins for a couple of years bonuses (yes I know that they are able to create money and not have to bother with grubby deposits but to the man on the Clapham omnibus …).
On a maybe more serious note – if the banks actually start making taxable profits (don’t laugh back there), how long before they burn through their huge brought forward losses from 2007 onwards and commence handing over cash to the public coffer?
Hallo Paul, in response to your comment re car loans and in the interest of us all developing a better understanding Shaun has said a while ago (I can’t remember when) that the effective discounts which were being provided via “0%” interest rates on new cars would have a negative effect on the second hand value of the vehicle the manufacturer/finance company promised to repurchase at a certain price, i.e. they may have to pay more than the second hand market value and take a loss on the “secured loan”.
Shaun went on to say that this would then affect the projected repurchase values for current new buyers. However, whilst I agree with him here I do not believe it is that simple,.
It is likely the contract will have written into it a paragraph stating the repurchase price is predicated upon the assumption that the car will be in “as new” condition or some similar statement.
At repurchase time I would expect the dealer/manufacturer/finance company to go over the car with a microscope, find a small scratch (the more the better) and declare that the scratch is a major problem requiring £1000, £2000,£3000 (take your pick) worth of repair work and that amount will have to be deducted from the repurchase price if, indeed the repurchase price was ever “guaranteed” in the first place.
These contracts have been around for at least 20 years and despite this slight of hand as you call it , fraud as I call it, the fact remains it is a loan secured on a depreciating asset, albeit their initial second hand valuations have become compromised by the success of their own finance schemes.
If you take Shaun’s argument to it’s logical conclusion then this would make all high loan to value mortgages on houses in the UK in 2008/2009 “unsecured credit” as housing market prices were not so much falling as collapsing. Had you asked me about mortgages secured on houses at that time I would have described them as a threat to the economy and financial stability but that would still NOT make them “unsecured” in my view despite the real probability of negative equity in the event of default at that time. The auto loan market appears to be beginning to head in that same direction although it’s too early to make predictions, but notwithstanding the auto loan market mimicking the UK housing market of 2008/2009 the auto loans, where “secured” against the car being purchased remain “secured” even though ultimately the finance company or whoever may end up in a loss making position at the repossession and resale stage.
Here in Germany things are mostly the same. Extremely low interest rates for banks, low interest rates for persons that are considered being solvent. Wage growth basically non-existing since 2000 or so (for non-managers). Soaring real estate prices (started later than in the UK, but we catch up fast!). Negative real interest rates for non-rich depositors. Also here it feels very much as if politicians and central bankers try to invent the perpetuum mobile economicus (word invention by me). It also seems that the rich and the baby boomers made an alliance against the youth and the poor. Student loans are – as far as I know – luckily not a big issue (yet?). Also credit for real estate is increasing, but not so much (reason see below).
A note on real estate: Today I heard in the radio here (what I feel for a while already 🙂 ), that rents in the cities are becoming too high for average income people. The reason is that not enough houses are being built. The reasons for this again are tax costs for buying new real estate (3.5-6.5% of the price depending on the state), high building standards (energy saving materials etc.), very busy construction industry (in the years 1995-2008 building industry was very weak –> limited capacity) and not enough construction ground (for me the latter is the most important). What they did not mention was the low interest rate and thus more competition amongst buyers and not the arrival of roughly 2 million new persons here in the last two years. Interesting is also (I read this somewhere online), that building new houses with flats requires rents of 10-14 EUR / square meter for the investor to be profitable. Unfortunately people can only afford 8-10 EUR on average… That seems to be a self-reinforcing scheme: it is not profitable to build new houses –> fewer houses are being built –> rents must be even higher compared to average income –> it is even less profitable –> even less houses are being built … and so on. Perhaps we end up in a new “middle age” with slaves without real estate, indebted real estate owners and lords and kings…
Hi Markus
I noted the Bundesbank warning about the German property market a week or so ago. But if I recall correctly it was prices and not rents which were bothering them.
I hope that Germany is doing better than us on this front.
” high building standards (energy saving materials etc.), ”
The Grenfell fire issue has opened up some issues for the UK which are usually rare here including supposedly energy saving materials being easily flammable.
The UK found that so many people especially from abroad wanted to live in London where there is little space and not in the places where there is plenty of room. Is Germany facing a similar problem?
As to the middle ages I and several others on here refer from time to time to the Dune books saga which if you have never read I thoroughly recommend.
So all that QE money is going to landlords, landowners, property developers,property speculators and debt sellers.
Markus,
Bill Mitchell’s blog (Australian MMT economist) today highlights DIW Berlin report on poor pay in Germany and mini jobs leading to risk of poverty.
Shaun, leaving aside the personalities for a moment,I don’t see whats so extraordinary about calling car loans secured debt. If the loan is secured against the car then it is secured debt and the car will be repossessed if you default because the debt was secured against the car. It’s not just me that thinks this – http://www.investopedia.com/terms/s/secureddebt.asp, final para “Examples of secured debt” refers.
Hi Noo2
We have had this discussion before! I remain of the view that in some ways I would prefer student loans as secured debt as I am hopeful for the human race. But fundamentally for something to be classified as secured I think it needs to be against something that is not expected to generally fall in price.
“We have had this discussion before!”
Oh dear and there I was asking for personalities to left aside. However. I shall persist with the quest for truth and clarity. I don’t remember a previous discussion, when was that?
Although if we have, the point remains valid , loans are routinely made to companies secured against company “assets” which may include plant & machinery (guaranteed to depreciate) and/or shares which may go up or down in price.
I accept this is your view but it it is not standard business practice which should be pointed out to any new readers unfamiliar with economics.
I see both sides. As long as the charge or interest is elevated to account for the declining asset then I dont see the problem with calling car loans secured. There are some slights of hand here though, who is owning the car, in PCP it is a finance company who has a distinct interest in not admiting a fair market value, also over-rating its own asset or book values. The low interest rates provide cover for these misleading valuations, exactly as sub-prime property lending did in the US.
“The funny thing is: they haven’t. In fact, among the more than 10,000 research articles produced by the major central banks in the two decades prior to the 2008 crisis, none explored the correlation or causation between nominal interest rates and nominal GDP growth. Fortunately, this task is not very demanding, and once we conduct such an examination, we conclude that, in actual fact, there is no evidence to back these assertions whatsoever. To the contrary, empirical evidence shows that the central banking narrative on interest rates is diametrically opposed to the observable facts in two dimensions: instead of the proclaimed negative correlation, interest rates and economic growth are positively correlated. Secondly, the timing shows that interest rates do not move ahead of growth, but instead are either coincidental or even follow it.”
https://professorwerner.org/shifting-from-central-planning-to-a-decentralised-economy-do-we-need-central-banks/
Hi James and welcome to my corner of the web