AMP Capital chief economist Shane Oliver has said that Australia’s household debt levels are not as bad as they seem, but a 2 per cent rate rise could leave Australians vulnerable.
In 1990, there was on average $70 of household debt for every $100 of average household income after tax. Today, it is nearly $200 of debt (not allowing for offset accounts) for every $100 of after-tax income.
In his latest Oliver’s Insights report, Mr Oliver explains that the rapid increase in Australian household debt reflects both “economic and attitudinal changes”.
“Memories of wars and economic depression have faded, and with the last recession ending nearly 27 years ago, debt seems less risky,” Mr Oliver said.
“Furthermore, modern society encourages instant gratification as opposed to saving for what you want. Lower interest rates have made debt seem more affordable and increased competition among financial providers has made it more available. So, each successive generation since the Baby Boomers through to Millennials have been progressively more relaxed about taking on debt than earlier generations.”
However, the economist observes that higher debt partly reflects a rational adjustment to lower rates and greater credit availability via competition. He also notes that the rise in the stock of debt levels has been matched by a rise in total household wealth in Australia.
“Thanks to a surge in the value of houses and a rise in financial wealth, we are far richer. Wealth rose [by] 9.5 per cent last year to a new record. The value of average household wealth has gone from five times average annual after tax household income in 1990 to 9.5 times today,” Mr Oliver said.
“So, while the average level of household debt for each man, woman and child in Australia has increased from $11,837 in 1990 to $93,943 now, this has been swamped by an increase in average wealth per person from $86,376 to $475,569.”
Nevertheless, Mr Oliver warns that there are several threats to such high levels of household indebtedness such as rising unemployment, deflation, a sharp collapse in home prices and a change in attitudes against debt. The biggest threat that many Australians will be watching carefully is the impact of higher rates.
“The rise in debt means moves in interest rates are three times as potent compared to say 25 years ago,” Mr Oliver said.
“Just a 2 per cent rise in interest rates will take interest payments as a share of household income back to where they were just prior to the GFC (and which led to a fall in consumer spending).
“However, the RBA is well aware of the rise in sensitivities flowing from higher debt and so knows that when the time comes to eventually start raising rates (maybe later this year), it simply won’t have to raise rates anywhere near as much as in the past to have a given impact in, say, controlling spending and inflation. And so, it’s likely to be very cautious in raising rates (and is very unlikely to need to raise rates by anything like 2 per cent.)”