UK deleveraging: “standard of living to plunge at fastest rate since 1920s”

The Telegraph today published a disturbing article on the dire state of the UK economy:

Households face the most dramatic squeeze in living standards since the 1920s, the Governor of the Bank of England warned, as he reacted to the shock disclosure that the economy was shrinking again.

Families will see their disposable income eaten up as they “pay the inevitable price” for the financial crisis, Mervyn King warned.

With wages failing to keep pace with rising inflation, workers’ take- home pay will end the year worth the same as in 2005 — the most prolonged fall in living standards for more than 80 years, he claimed.

Mr King issued the warning in a speech in Newcastle upon Tyne after official figures showed that gross domestic product fell by 0.5 per cent during the final three months last year. ..

There were fears that the country was poised to slip back into recession, defined as two successive quarters of negative growth. Economists said the situation was “an absolute disaster”. ..

Disposable household income has been hit by sharp increases in the cost of food, fuel and tax, coupled with restricted wage rises for most workers. Last year, take-home pay fell by about 12 per cent, official figures showed, and the trend was expected to continue in 2011…

“In 2011, real wages are likely to be no higher than they were in 2005,” he said. “One has to go back to the 1920s to find a time when real wages fell over a period of six years.

“The squeeze on living standards is the inevitable price to pay for the financial crisis and subsequent rebalancing of the world and UK economies.”…

Addressing the problems of borrowers, he added: “Households and small businesses with little housing equity may be unable to borrow at all or are able to borrow only in the unsecured market – where rates are much higher than before the crisis.”

The UK’s precarious position is the direct result of household deleveraging following the bursting of its housing/credit bubble in 2007/08.

I explained the leveraging/deleveraging process in an earlier post:

When house prices rise, [households] feel richer, which spurs consumer confidence, spending and employment growth. A positive feedback loop can develop whereby households take on more debt, causing housing values to rise further and the process of confidence, spending and employment growth to repeat.

But home values and debt levels can only rise so far and, sooner or later, the process of debt feeding asset prices feeding confidence, consumer spending and employment growth goes into reverse (i.e. deleveraging). House prices stop rising (or fall) and highly-indebted households begin to reduce their spending and repay debt. Sectors reliant on consumer spending contract and unemployment rises. Consumer confidence falls, leading to further frugality, house price reductions and job losses.

As shown by the below chart, UK households, like their Australian cousins, went on an almighty borrowing binge over the 2000s, as evident by household debt to disposable incomes rising from around 100% in 2000 to a peak of 161% in Q1 2008.  However, unlike Australian households, who have continued to increase their debt loads post the global recession (to 157% of disposable incomes currently), UK households have started repaying debt, with debt to disposable incomes falling to 149% in Q1 2010. 

As expected, the UK’s consumption-based economy was firing on all cylinders whilst the positive feedback loop of debt feeding asset prices feeding confidence, consumer spending and employment growth was in motion. However, the turning point was reached in late 2007, when UK house prices began falling, thus commencing the deleveraging process (see below chart). 

UK households suddenly felt poorer, eroding consumer confidence and their willingness to spend (the ‘wealth effect’). And with asset prices falling, and many households moving into negative equity, they had little choice but to tighten their belts and begin the process of debt repayment.

This process of UK households shifting from borrowing/consuming to saving/debt repayment is illustrated clearly by the below Bank of England chart, which shows housing equity withdrawal (HEW) moving from positive to negative in Q2 2008. According to the Bank of England, households have injected £49.7bn into housing equity since the HEW measure turned negative.

And with the banks suffering from high levels of non-performing loans and falling collateral values following the housing correction, credit conditions have tightened significantly, especially for those with high loan-to-value mortgages and renters (see below Bank of England chart). Households are simply unable to increase their borrowings even if they wanted to. 

Put simply, the UK economy will remain moribund for years to come as the deleveraging process slowly works its way through the system.

The question then is: with Australia’s house prices now the most expensive in the Western world, and our household debt levels similar to the UK at its peak (i.e. 157% of incomes), how long will it take before we suffer the same fate?

Cheers Leith   

[email protected]

Unconventional Economist


  1. Inflation is a lot higher than the CPI rate and only applicable to cheap imported tack from China and I beleive we are already into double digits.

    The purchasing power of my wages is going down and my saving are be eaten by all this printing of money and thats why i buy physical silver as an edge and this sends a message to the banksters that i am not playing their game.

    Moving money abroad can protect your money if you pick the right place but you would be well advised to shop around because as a long term customer of Currencies Direct they wanted to charge me 2.5% above the mid days trading price for a few seconds work.

    Take away inflation and the real grouth rate in GDP is something like -10% but what would you exspect when we don’t produce anything but traffic wardens in this country.

  2. … and as I have said repeatedly, the pill is the culprit for the western world’s period of contraction (10 to 12 years of misery ahead).

    Total consumption is on the way down for the rest of this decade – not even China can fill the hole the western world is creating. Not a hope – and anyway why would the average Chinese family want 5 vehicles and 10 TV sets? I really can’t see them buying the SUV to get to the subway …

    Right now the Chinese DO NOT HAVE THE DOUGH to buy the McMansions that are being built – they do not have the disposable income! So forget the add ons.

    Add to that the ageing population in the western world (then China, Japan is in the middle of it already and it will get way worse before it gets better), and you have a receipt for contraction, deleveraging, debt reduction and as it picks up speed … fire sales to get into cash to fund “retirement” – most will have to work to 75 if they don’t sell the house (and they will, I understand the average retirement fund is about 110K in Australia – look out on the tax collection in the years ahead – oh, and they will need to be kept alive, so add some more tax for Medicare – like double the current collection, oops missed the tax for the floods that is on the way, oh, maybe a carbon tax as well, and … maybe even a tax on the younger to support the older). Wow that will keep people spending like a drunken sailor. NOT.

    Put simply, the bargains are on the other side, it may take a few years for the rout. In my view, Australia will fall quickly when it falls. So look out below!

    Ironically, cash will be king and will have significant purchasing power in a year or two as ALL ASSETS get smashed, gold and silver included. Nothing will be spared (except cash).

    Now go read the newspaper and read the rhetoric the banks HAVE TO PUT OUT TO SAVE CONSUMER CONFIDENCE to try and deflate this (by the steps and not the elevator) the best they can. Shorting banks will be the biggest game in town when this gets moving. That is where fortunes will be made.

    Consumer confidence is the key – in the UK it is going down the toilet as people talk/react and move to debt reduction. In the USA, the middle class still don’t get it – believing it ain’t over … and it will all be OK. Yeah, let’s see, I reckon 2022 I’d be happy to enter that debate.

    The days of “crack” (borrowing more to make more) are over for a decade of more. This is not the time for risk – it is the time to put the hard yards in now – put some collateral into the bank with your employer and get productive – make yourself indispensable. Losing your job will will be the start of losing most of what you have achieved in the past 10 to 15 years.


    • Dear Phil,

      I liked reading you comment however I disagree with you on one point. You mentioned that cash will be king and all assets including gold and silver will decline. I strongly disagree with this because the system has two leeches which will suck any value the cash can have. First the government through deficit spending to fund pensions and medical & the rest; and the second leech is the banking system which will create credit faster than any gain in value the cash can ever have. Its because of the uncontrollable greed of those two that we are in this mess in the first place. So how can you expect to ever have value remaining in cash. My advice to people for retirement is to go to physical assets that can not be printed or manipulated easily. Mainly save some gold and buy some property in good areas that you can rent out or sell later on. This is a good time to buy because people are depressed, however, do not stretch yourself and buy in good areas. No speculation. Sadly, I can think of nothing else. The stock market is being manipulated and robbed by large players with governments facilitating. Money saved as cash is being robbed by printing and bank credit. Funds are not performing and fees are killing any gains. On top of that, if you somehow get away making something they chase you for capital gains taxes on already depreciated money. Whoever calls this “The Free World” should start thinking real hard because I can not see “Freedom” any more. We are slaves to a ruthless fiat monetary system backed up by a fierce tax system. I sometime feel crime is even encouraged to force us all to leave nothing at home and feel compelled to go the banks way.

      • Flexi Dexi – Gold has never increased in value in a deflationary period. It goes up in value in an inflationary period – we are very near the end of that in my view. Once the reality sets in and the world sees that endless amounts of money to “inflate” its way out of trouble DO NOT WORK – the rest will be history. The smart money has already been made in Gold and Silver in my view – don’t get sucked into the “frothy” end of the cycle.


  3. The massive private debts of corporates have been neatly handballed to the public sector ensuring taxpayers of such burdened countries pay steeply for the excesses of these corporates. Increased taxation, decreased services, austerity measures are felt more keenly by those ‘ordinary’ citizens, meanwhile the banks continues to spew forth obscene bonuses to the very engineers and manipulators of the financial meltdown. In fact, bankers may well ask “what meltdown” it is business as usual for them as evidenced by bonuses so freely given.

    We have witnessed (and continue to do so) the largest financial fraud in history, the main players continue to reap massive financial rewards whilst democracies continue to bailout the kleptocracy at the expense of their citizens.

    FFS, now these financial wizards have found ways of manipulating pricing of basic food commodities for profit – healthy bonuses for them, desperation, unrest, hunger for the millions.

    Greece screwed, Ireland screwed, UK screwed, Portugal, Spain, Italy, Belgium…the US????

    The Great Debt Shift (Prudent Bear)

  4. There is also the fact that the government makes up more than 50% of the economy in the UK. Right now they are a huge drag on the economy. At the end of the day, I see this as a good thing for the UK, provided the government cut cut spending (as a proportion of GDP) to below 25% at LEAST.

    They could do this EASILY without cutting services as most of the spending is on faceless, and useless, bureacrats and pointless welfare that could, and could, be cut.

    Deleveraging should be seen as an opportunity to cut the massive waste of the government whilst freeing up the private sector to do what it does best, create wealth.

  5. I live in Wisconsin, USA, home of the Green Bay Packers football championship team. You are all a bunch of doom and gloomers.

    Everything is going to be fine. Just the other day our President Obama told us so.


    Donovan Mooore
    Lone Rock, Wisconsin, USA

  6. Australia has a long way to go to get globally competitive……labour shortages may lead to rising wages in Australia, adding to the problem in the long run when we need to wind back to become globally competitive.
    Labourers can earn $100K for an 8 hour day in the sun, anywhere else (with the exception of Australia) this is regarded as ridiculous.

  7. Read what Fred Harrison wrote back in 2005; he NAILED it. “The Mystery of Britain’s missing recession”

    Housing equity cash-outs create an artificial economic boom for a while, then a massive hangover. Meanwhile, the politicians have been spending, spending, spending, the artificially high tax receipts, and committing to more and more lavish vote buying programs. This, too, leads to the mother of all fiscal hangovers.

  8. The papers of Paul Cheshire and colleagues at the LSE certainly analyse the role of Britain’s “Town and Country Planning Act” in Britains long economic decline.

    The recent housing bubbles that have happened all over the first world as planners have introduced the same kind of rationing of land, have been the cyclical norm in Britain for 5 decades now. Each bubble and bust is worse than the prior one. Britain’s property price volatility is one cycle AHEAD of California’s. Imagine California, worse again – that is Britain now.

    Meanwhile, the long term TREND is to greater and greater literal shortages of houses, including “social housing”. Britain is several millions homes short now. Yet the “building response” to each “boom” is less and less; the British building industry continues to shrink; tens of thousands of jobs in that sector have been shed over the last few decades.

    The average floor space per person is now lower than Japan; lowest in the OECD. The average age of a first home buyer is 37. All sorts of social pathologies flow from the severe “inequality” results of high land costs and the ever-greater rationing “share of space” by income level. Not to mention youth hopelessness, and household break-ups due to stress.

    To cap this all off, it is all for nothing in terms of “urban efficiency”; urban efficiency is REDUCED by the inflated land prices. Britain has a serious competitive disadvantage due to high land prices themselves AND the inefficient urban form that results.

    But give the planners time in Australia and NZ, they can do the same for us too. Never mind the massive open spaces we could have utilised. We are the worst kind of economic Darwin award competitors, folks.