Is this the biggest financial issue facing Britain today?

And no, it’s not the fallout from Brexit.

And no, it’s not the fallout from Brexit.

Since the referendum on the UK’s EU membership, I’ve said time after time – don’t panic.

Bankers may be freaked at the prospect of losing their jobs or at least seeing their bloated pay packets curbed. The Bank of England may have just warned that Brexit uncertainty is building up (though when did it last get a major call right?) But for many people who neither live close to – nor even like – the City, life has continued much as before.

Something much more worrying, though, is happening in our economy. And it could make Brexit look like a storm in a teacup…

Financial Armageddon hasn’t happened – yet

Brexit hasn’t so far proved to be the economic disaster that Remainers predicted. Their dire warnings about financial Armageddon simply haven’t come to pass. The economy is still growing. Sterling has recovered against the US dollar and the Japanese yen. OK, it’s continued to slip versus the euro, but that’s more a function of the latter’s strength due to relatively good EU economic data.

As for the divorce negotiations between the UK and the EU…I tend to steer clear of politics as I don’t have much time for politicians. They’re very good at posturing, pontificating and spending as much of your money as they can. But they’re much less proficient at delivering anything really useful. While Britain’s Brexit negotiating team has a very difficult job on its hands, though, I reckon it’ll eventually muddle through in time-honoured fashion.

Our real problem lies elsewhere.

All-time low

The saving ratio measures UK households’ financial incomings and outgoings. It shows the percentage of disposable income that’s saved rather than spent.

And the most recent figures from the Office for National Statistics (ONS) paint a very worrying picture indeed, even allowing for possible later data revisions.

Between January and March this year, the national savings ratio dropped to just 1.7%. As the ONS chart below illustrates, that’s down from 3.3% in the previous quarter. It’s also the lowest-ever print going back almost 55 years since records began.

UK Savings Ratio%

Source: ONS.

There are several reasons for the decline in Britons’ savings.

Consumer prices are rising at 2.6% year-on-year while pay packets are growing by just 2% annually. In fact, ‘real’, i.e. inflation-adjusted, earnings are shrinking at almost their fastest rate since August 2014. This means that much of the population is becoming worse off. As a result, households have less cash to set aside for a rainy day.

Further, consumer credit has been growing by an annualised 10% or more for at least the last year, according to Bank of England data. In other words, extra borrowing has thus far been helping to compensate for the increasing shortfall in real wages. But against such a backdrop, households can’t manage to service higher debts, keep on spending and also maintain their savings. It looks like the latter have taken the hit.

Meanwhile, the fall in the UK’s savings ratio fall over recent years has accompanied the overall decline in inflation since late-2011.

That’s not as counter-intuitive as it sounds. Smaller cost of living rises have been a major factor behind today’s extremely low interest rates. These have been driven down by Bank of England policies including QE – quantitative easing, i.e. the monetisation of debt. And they provide little incentive for savers to stash away cash if the returns are as low as at present.

Sure, since Brexit the pound has dropped, lifting the cost of imported goods and therefore the inflation rate. But as the Bank of England’s Monetary Policy committee seems determined never to lift interest rates, it’s no wonder that the savings ratio has kept dropping.

Along with all that mounting debt, this is a very alarming development in its own right.

But there’s also a very concerning historic parallel. The last prolonged slump in the UK’s savings ratio was just before the 2008 global financial crisis. So will history repeat itself?

As Albert Edwards at Societe General says, Britain is in a much worse savings ratio situation than the US (the next worst offender), Japan and the Eurozone. Indeed, the recent decline in the UK’s ratio “is almost without historical precedent. It is a credit disaster waiting to happen”.

“The Bank of England recently warned about a ‘spiral of complacency’ surrounding the increase in consumer debt,” he continues. “But the Bank is in denial that it is itself the midwife of any impending credit bust. It…should have unwound QE and normalised interest rates long ago. If credit growth has gone out of control it is 100% its own responsibility. The UK is sitting on a massive credit bubble that is primed to burst with recessionary consequences.”

Strong words. But it’s very clear that something has to give. Either Britons begin to balance their household finances, which would be an uncomfortable process as it would slow domestic consumption, or the growing debt excess will eventually morph into something even more painful: another credit crunch.

And that would be a recipe for a very nasty economic downturn – and a major stock market shakeout as well. By then we’ll have a lot more to worry about than Brexit negotiations.

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