Dead calm

Britain’s credit boom is a cause for concern. Not for the obvious reasons: rates are low and the banking sector is sturdy. The issue lies with another big UK industry – cars.

Auto finance is driving up the stock of non-mortgage debt, which includes credit cards and personal loans and hit 197 billion pounds at end-March. That’s close to the 2008 financial crisis peak, and household debt as a proportion of disposable income is rising. Since 2014, car finance has consistently been the biggest driver of annual consumer credit growth, which is now running at more than 10 percent.

Unlike 2008, lenders are not likely to be hugely exposed. The Bank of England says they have enough capital to swallow over 18 billion pounds of consumer credit impairments that might stem from a doubling in the unemployment rate. Instead, the “personal contract purchase” deals popular with Britain’s drivers leave exposure with the finance provider, which tends to be a car manufacturer. The latter typically buys back the car for a “residual value” after a certain period.

Delinquencies on bonds backed by car loans are no higher than in 2014, according to Moody’s. Still, the residual value of bought-back cars has fallen over the same period. The auto industry, which employs 814,000 in the UK, inherently has a reason to keep pushing car finance, because it improves sales of vehicles. Moreover, companies have an incentive to overstate residual values so they can justify offering finance at a lower fee.

Imagine real wage growth stalls – say, because Britain fails to secure a decent trade deal with its European peers when it leaves the EU. There would be less demand for auto finance, and less willingness to provide it. Already, consumer confidence is at its lowest since June’s referendum. The Bank of England reckons that two-fifths of the fall in UK consumer spending after 2007 came from outlays by households with higher debt levels on bigger-ticket items like cars.

An automotive slowdown would hit Britain’s prospects. If carmakers stop pushing cheap finance, and fewer cars get bought, they are likely to start reining in production of vehicles in the UK, which hit a 17-year high in 2016, according to trade body SMMT. Banks or no banks, if the credit boom stalls the economy will feel it.

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