Going for broke

National debt has been in the headlines for the last few months but levels of personal debt are far higher and only look set to get worse.  In January 2010, the average household in the UK owed £8,939 on unsecured loans.  If we add mortgages and other secure loans into the picture, the average household debt rises to £58,040. This adds up to just under £1.6 trillion in total.

Despite the recession, most people are actually managing to keep up with their mortgages, credit commitments and household bills but times are not easy; in 2008, 29 per cent of the public said that they were struggling from time to time to keep up repayments, ten per cent said it was a constant struggle to do so and three per cent were falling behind.  One year later, the situation had eased slightly for people, due to low interest rates on mortgages but some groups are still suffering greatly from debt problems.   

Those in poverty have particularly suffered.  Research has shown that 42 per cent of those in poverty had been seriously behind with repaying bills or credit commitments in the past year (compared with four per cent among the non-poor).   Families with children, especially lone parents, have also got particularly high rates of debt.  Using the Families and Children Study (FACS) researchers identified three groups — those ‘never’; ‘sometimes’ and ‘always’ in arrears; lone parents and Income Support recipients — groups with a good deal of overlap — were the most likely to be ‘always’ in arrears.

This briefing considers the causes and consequences of debt problems and whether or not the problems are due to excessive consumerism and low levels of financial capability among those on low income.  The role for policy here is also discussed.

Causes and consequences of debt problems

It is clearly very difficult for people who experience persistent poverty and low-income to avoid debt.  In this respect, poverty causes debt problems.  But debt problems can also lead to poverty.  The links between causes and consequences are complex and this can also be illustrated in relation to separation and divorce.  Debt problems can put a strain on couples leading (or contributing to) separation and divorce.  In turn, separation and divorce can cause (further) debt problems and this is particularly clear from the extent of debt problems suffered by lone parents.

Another cause (and possible consequence) of debt problems is job loss.  For example, secondary analysis of the BHPS for 1991-2000 found that a quarter of households that had experienced a drop in income in the past 12 months were currently in arrears with one or more commitments and a further two in ten said they were experiencing financial difficulties.  Earlier research had showed that loss of income through unemployment, can have a sustained effect on the household budget, with an increased level of arrears up to three years later.

Some qualitative research has also suggested that, once unemployed, debts can form a barrier to taking up paid work. And there is evidence that, among workers, arrears led to leaving employment, possibly due to problems with housing benefit and tax credits.

Financial problems are also linked to physical and mental health problems.  Recent research found that:

• 38 per cent of those with moderate depression were in arrears;
• 27 per cent of those who have had suicidal thoughts in the past year are in arrears;
• 49 per cent of those with moderate or severe alcohol dependence are in arrears.

People’s lives are complex with changes occurring in many areas, such as physical and mental health; relationships and living arrangements; housing; education and employment.  These changes may cause or worsen debt problems but they may also be a consequence of debt problems.  

Financial Capability and Individual Attitudes

In the last few years, government policy has turned to the issue of ‘financial capability’ with a concern that some people may be getting into debt because they are not sufficiently competent in relation to financial matters.  

In some ways, this echoes a long-standing concern that people in poverty may be poor money managers or even deliberately feckless, borrowing money recklessly and spending their money on inappropriate items.  While it is certainly true that people on low incomes vary in the way they approach money management and some may be ‘better’ money managers than others, there is considerable research evidence to suggest that, overall, people in poverty manage their finances with care, skill and resourcefulness.

Indeed, a major survey on financial capability for the Financial Services Authority showed that while respondents on higher incomes were, unsurprisingly, more likely to make ends meet than those on lower incomes, ‘those on lower incomes scored more highly on keeping track of their money than respondents in the higher income groups’.  Lone parents were among those doing best at keeping track of their money.

Analysis of the British Social Attitudes Survey found few differences in people’s attitudes and behaviour to saving and spending by income level.  There was no evidence to suggest the existence of a ‘feckless’ poor who had particularly casual attitudes to debt; in fact, those on lower incomes were the most likely to take the view that ‘people should never borrow money’.  

One strategy often deployed, in families with children, is parental sacrifice, especially by mothers, in order to protect children from the full impact of inadequate material resources.   Children in low-income families often try to protect their parents by refraining from asking for money for new clothes, toys and school trips.

While there will, of course, be some people on low incomes who are poor money managers (just as there are among more affluent groups), the evidence is clear that the majority of those in poverty simply do not have enough money to go round without either falling behind with commitments, borrowing money (often at high rates of interest causing further strain when making repayments) and/or struggling to juggle their finances.  Researchers often point to the resilience and resourcefulness of people in poverty, but countless studies warn about the ‘danger of painting too rosy a picture of women’s resourcefulness that ignores the strain that it places on many of them’.

What can policy do?  Prevention and cure

There are two policy approaches to problem debt: the first is to find ways to prevent it occurring and the second to find ways to reduce the problem once it has occurred.  

One way of preventing debt from occurring is to encourage and enable people to save in advance for times when they need extra money.  But people on low incomes, not surprisingly perhaps, find it very difficult to do this.  The Poverty and Social Exclusion Survey specifically asked whether people could afford to make regular savings of at least £10 per month ‘for a rainy day’ or towards retirement. Three-quarters of those classified as ‘poor’, compared with seven per cent of the ‘non-poor’, said that they were unable to do so.

In response to this, the last government planned to introduce the Saving Gateway in July this year to help people on low incomes to save by giving them 50p for every £1 they saved (up to a limit of £25 per month).  But this flagship New Labour policy has been one of the early casualties of the public spending axe and will not be introduced now.  At the same time as this policy was abandoned, the new government pledged its support to retain the tax-free status of Individual Savings Accounts (ISAs) which largely benefit those on middle and high incomes.

Another policy area here is affordable credit.  Credit Unions were supported by the previous government and showed signs of growth but are by no means universal or suitable for everyone in their current format and we are yet to see what the coalition government will do in this policy area.

Another way to prevent debt from occurring is to ensure that people have enough income to live on without building up debts.  The recent budget had some progressive elements (higher tax credits for families on low incomes) but changes to benefit up-rating, reductions in housing benefit and higher VAT are all likely to hit the poorest hardest.  The continuing recession is also likely to hit family budgets.

Financial education can also play a role in terms of prevention though, as noted above, people are generally good money managers.  The previous government had proposed making financial education part of the national curriculum but there are no signs that the current government will continue with this.  However, the current government has announced support for the new Money Guidance service which was due to be rolled out nationally from spring 2010.   

As well as focusing on individuals, the financial services sector has a role to play in not encouraging people to take out loans which they do not really need or cannot really afford.  Banks have also been criticised for making excessive charges on customers, for example, if they go overdrawn even very briefly.

Prevention will not always work, even if incomes are higher, savings schemes more suitable, financial education more widespread and financial services more responsible so we also need to look at cures for problem debt.

Debt advice is important here and the previous government had increased the spending on this area of work.  There have been no pronouncements on this from the Coalition government though the spending squeeze must be a cause for concern for debt advice agencies.

Conclusion

As the government seeks to reduce the national debt, there is a risk that debt will be transferred from public to private with those on the lowest incomes taking on the biggest burden.  If unemployment increases and benefit levels are effectively cut this will surely happen.  The Coalition government is keen for people to ‘do the right thing’ and behave responsibly, for example, to save for a rainy day.  

But they have just withdrawn the Saving Gateway, a policy that had been piloted twice and was shown to be very effective in helping people save.  At the same time, the privileged status of ISAs remains, to the benefit of those on middle and high incomes.

It is clearly important to reduce the national debt but the burden of doing this should surely be shared a little more fairly.

Karen Rowlingson is Professor of Social Policy and Director of Research at the Institute of Applied Social Services, University of Birmingham.