RegulationNov 9 2022

How will households weather the cost of living storm?

twitter-iconfacebook-iconlinkedin-iconmail-iconprint-icon
Search supported by
How will households weather the cost of living storm?
comment-speech

I need not repeat all the figures here, but the most alarming is easily the energy price cap. For a typical household, the price cap – already increased to £1,971 on April 1 – rose again on October 1 to the government’s £2,500 ceiling. 

It goes without saying that the impact of this is going to be dramatic, given that energy will not be the only thing people will be paying more for – add into the mix shop prices, transport, council tax and water bills, which are all set to rise in line with inflation.

Also, consider the fact that this is a ‘typical’ energy bill, not an average or even median bill. There will be many for whom this figure significantly undercuts reality.

Four remedies

Faced with such ballooning outgoings, what are households going to do?

If we look to previous periods of inflation and financial hardship, we find that they are likely to turn to one or more of four key remedies: cutting back on spending; falling into arrears with household bills; more borrowing; or defaulting on existing credit arrangements. 

Thankfully, for most households these remedies will likely not be called on. For them, the inflation shock will be uncomfortable but bearable.

The latest figures show median household disposable income in the UK was £31,400, according to the Office for National Statistics, and so, unless heavily indebted, this will be sufficient to weather the storm. 

More households are going to consider falling into arrears on household bills. 

It is the remaining households, and specifically those with a disposable income of less than £19,500, who will be increasingly turning to one or more of these four options over the coming months. 

In contrast to previous downturns, however, they may not prove to be as helpful as before.

Cutting back on spending – traditionally the first target for consumers – is going to be trickier this time round. 

Disposable incomes have been shrinking. There was a record 18 per cent drop in average household disposable income in June 2022 compared to the same month in 2021, according to the Asda Income Tracker collated by the Centre for Business and Economic Research.

After paying tax and essential bills, the average household had £200 a week left – a figure that has fallen for eight consecutive months to a level not seen since December 2017.

At this comparatively low level, discretionary spending on items such as eating out and shopping will come under the spotlight as well as gym memberships and streaming services. 

But if option one is not enough, more households are going to consider falling into arrears on household bills. 

Unlike previous downturns, the lending environment is markedly different.

Once those with stiff civil penalties for non-payment such as council tax are discounted, they may take the decision to cancel their direct debits.

Symptomatic of the way some may have changed their view of taking such action is the Don’t Pay UK campaign.

Launched earlier in the summer with the intention of getting at least 1mn people to cancel their direct debits to energy companies, the campaign has already attracted 90,000 signatories.

For many, the third option – borrowing – is not going to be so easily tapped. Their ability to cushion the shock with credit could well be limited. 

Unlike previous downturns, the lending environment is markedly different. A whole raft of consumer safeguarding regulation has been enacted, the latest being consumer duty.  Many simply will not be able to afford to borrow and will fail the more rigorous affordability assessments.

They are already significantly indebted; UK consumers owed £1,805.7bn at the end of June 2022, up by £62.5bn from £1,743.2bn at the end of June 2021, according to The Money Charity's August 2022 report. That is an extra £1,181.21 per UK adult over the year.

The average total debt per household, including mortgages, was £64,970. What’s more, credit card spending seems to be taking off. 

We cannot forget that regulation in the wake of the changing economic landscape and looming defaults will mean lenders’ risk appetite may well have changed.

Only time will tell how well equipped households are to weather the storm.

Providers might undertake a ‘flight to quality’, especially given the negative cost associated with mis-selling.

The last resort option of defaulting on existing finance may well become the only option for a significant proportion of lower-income households, despite the negative consequences in terms of credit profile and future borrowing prospects.

So far there is little sign of this happening, with consumer debt write-offs and repossessions not significantly changed on previous years, but with mortgage rates now rising on the back of other inflation, it may not be long before we see the last of the four options rise steeply.

The extent to which this will happen is going to depend largely on the success of the energy price freeze and overall government efforts to smooth the cost of living hike over the two-year cycle that the Bank of England is predicting.

Only time will tell how well equipped households are to weather the storm, and if they will still be standing on the other side. 

David Wylie is commercial director of LendingMetrics