The Bank of England’s warning that it plans to raise interest rates from as early as May will hit millions of low-income families who have only survived financially for a decade by using cheap credit.
The Resolution Foundation said almost half of low-income families were in debt distress before Threadneedle Street said last week that it needed to increase the base rate at an accelerated pace over the next two years.
The Bank governor, Mark Carney, said the strength of the economy warranted higher borrowing costs. He cited rising average wages and resilient GDP growth as reasons to begin pushing interest rates from the historically low level of 0.5%.
But a study by the foundation showed the proportion of households in some form of debt distress rose to 45% among the poorest fifth of working age households, with more than a third experiencing difficulty in paying for accommodation and one in six in arrears on either their mortgage or consumer debts.Sign up to the daily Business Today email or follow Guardian Business on Twitter at @BusinessDesk
Households headed by someone aged 25-34 spent nearly £1 in every £5 of their pre-tax income on debt repayments in 2017, compared with 20p for households aged 65 and over.
Levels of consumer credit have soared in recent years to more than £200bn, prompting debt charities to warn that lenders are repeating the mistakes made in the early part of the century, when households on low incomes were sold loans they could not repay.
Matt Whittaker, the chief economist at the Resolution Foundation, said most of the increase in consumer debt since 2014 was among middle and higher income groups and they could afford to absorb an increase in interest rates.
The cost of servicing Britain’s household debt is low by historical standards, he said, with repayments accounting for 7.7% of disposable income, well below the 12.3% recorded just before the financial crisis, and in line with the level seen during the mid-1990s and early 2000s.
“However, while the recent growth in debt is less of a concern, it is very worrying that almost half of low-income families are already showing signs of debt distress,” Whittaker said. “While rates have been at historic lows for a decade now, many families have experienced a tight income squeeze over this period and have not been able to get back on the front foot when it comes to servicing their debts.”
Forecasts from the Bank of England last week showed that inflation and rising wages were likely to cancel each other out this year, leaving poor households without the benefit of rising real incomes to cope with higher interest bills.
Whittaker said: “Policymakers must have regard for those low-income households who are already struggling to pay off their debts, and who could be really exposed if interest rates go up faster than currently expected.”
The foundation said an increase of two percentage points in mortgage rates would cause a modest increase in the “at risk” population of households spending 30% or more of their pre-tax income on mortgage debt servicing. Currently, 12% of mortgagor households sit above this threshold but the foundation said this figure would rise to 15% or 1.1m households.
Among mortgage payers in the poorest fifth of households, 57% are already believed to be in the “at risk” group, rising to 59% following a two-percentage-point rise in the Bank of England base rate.
- Interest rates
- Bank of England
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