The Consumption and Saving Trend of the UK Households'

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Daniyal is a volunteer for Positive Money, and is researching the impact of the current banking system on debt, poverty and inequality. 

Households saving is the proportion of disposable income that is not spent on consumption, or alternatively the difference between current income and current consumption. Households’ decisions to save or spend plays a key role in the determination of aggregate demand and their willingness to spend on final goods and services. It has a key effect on economic outlook of the UK because 60 percent of contribution in the consumption of the UK is by consumer sector. The saving ratio of the UK fell steadily from 1995 – 2007 but increased by the end of 2008 and 2009. The output of the UK also fell over 5 ½ percent in 2007.

Berry and Williams in their paper “Household Saving” explained that either saving or debt can be used to accumulate assets by households. They used the following equation to explain this:

S+D = A+H


S= Saving


A=Financial Assets (deposits and shares)

H= Housing Assets

This means that households can acquire financial assets or housing assets by saving or by obtaining debt. In practice some of the households will be obtaining debt to increase the amount of funds for consumption and some of the households will be saving. But during the last decade saving ratio of the UK households has decreased and household debts have increased markedly.

Saving ratio in the UK has declined since 1992 as the household sector increased its consumption expenditure. The increase in rate of consumption was greater than the increase in disposable income which means that households acquired huge debt to finance their consumption expenditure. Following figure shows the decline in consumption of households in 2007.

The households saving ratio declined from around 10 percent in the mid – 1990 to around 2 percent in mid 2007 and then -0.7 percent in 2008. It then increased to 4 percent in 2009. The following figure shows the actual saving ratio and inflation adjusted saving ratio.

The households saving ratio declined over last decade due to low interest rates, low inflation, excessive lending by banks to households sector, loose credit conditions, high asset prices and an economic boom (naturally fuelled by debt).

According to the modern consumption theory, which is based on Friedman’s “life-cycle permanent income” model, households decide on their current spending on their expected future income. If they expect the income to be higher today than in future than they will save today and if they expect the income to be lower now than expected future income than households will ‘dis-save’ (by borrowing or using ‘saving’ assets for consumption). [Of course, this theory is very much open to dispute – ed.]

The ‘risk-free real interest rate’ is also one of the key determinants of the households consumption and saving. In economic conditions with low interest rates, the saving ratio is also low because the households are able to borrow  easily to fund their consumption (because increase in house prices provide more collateral against which they can borrow more). A higher real interest rate encourages consumers to spend less at the moment to maintain their real value of money by saving higher interest receipts.

Over a last decade long term interest rate of the UK was at historically low levels making possible for households to obtain credit easily. The spread between bank rate and mortgage rates narrowed to around 50 basis point from 100 basis points at the end of 2006. This encouraged the households to increase their consumption and reduce savings.

The increase in consumption and decrease in saving of households was not a result of their expectation of high future income but due to easy availability of credit. Banks played a crucial role in influencing consumption and saving pattern of the households. The excessive lending by banks  in the form of secured (mortgage) and unsecured (credit cards, overdrafts etc) encouraged the borrowers to increase their consumption and decrease saving over last ten years period. The consumption and saving trend reversed during economic slowdown.

Households decisions to save or spend are dependent on their expectation of future economic growth and easy availability of credit. Households increased their saving during the financial turmoil because they were uncertain about future positive growth prospects, non-availability of credit in the economy, increased job uncertainty, decrease in net financial wealth, and lower expected future income.

Increase in unemployment and low future expected income was major causes that encouraged households to increase their savings and cut consumption. Unemployment in the UK increased sharply during the financial crisis. Unemployment rate rose over 2 ½ percentage points over the past two years. Households expected increase in unemployment and prolonged period of economic slowdown so they cut their spending. Following figure shows the households expectation of unemployment.

GDP growth of 0.2 percent in the second quarter caused households to revise their expected future income. Following figure shows that households are expecting to have low future income.

Due to financial turmoil and uncertain future economic conditions consumers responded by cutting back their consumption / spending. Households are now trying to save for debt repayment and to maintain their real value of money. This adjustment in saving will have important consequences on the economic outlook keeping in mind the role of households spending in the aggregate demand.

Reduction in consumption by households will push down economic outlook and eventually households income because businesses will cut their capital spending that leads to low job creation in the economy. The drag on households income will make it harder for them to increase their saving which mean that we don’t see increase in consumption by households in near future.

If banks continue to invest in mortgages and speculative investments we will soon be witnessing another economic boom and bust. Banks should invest in productive sector of the economy particularly to Small and Medium Businesses that contribute to the economic development, create employment opportunities, increase saving of households, lead to stable consumption and spending in the economy and reduce vulnerability of output in the economy and for businesses.


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  • Dave Holden

    So in a nutshell credit created by banks was directed into non (less) productive assets and consumption. Ultimately leading to a speculative boom until someone had a Wiley Cayote moment and looked down.

  • Pingback: The Consumption and Saving Trend of the UK Households’ « Daniyal Labib()

  • Daniyal Labib

    Dave! Out of total households’ debt of £1.4 trillion at the end of 2010, £1.24 trillion (85 percent) was secured debt i.e. mortgages and £216 billion was unsecured debt. This eventually increased the consumption of households’ as they obtained more debt due to increase in housing wealth. Households’ consumption remained stable as long as they were able to obtain debt but their consumption decreased markedly when banks cut their lending during crisis.

  • Nic the NZer

    I don’t strictly agree with the idea that banks trick people into too much debt and spending.

    The main reason that people eat into their savings, go into debt is that through the financial system there is constant inflationary pressure, through expansion of the money supply (credit and base). Cost of living increases are often not correlated with wage increases, meaning that to maintain their life style people must dip into their savings.

    You can see this most starkly with housing (which is usually debt funded), where by home buyers must take on larger and longer mortgages (in proportion to income).

    The reason for the house hold consumption drop correlated to lending drop, well it’s not that people are living on debt (in general). Most costs of living are still paid for inside wages. However home vendors will have decreased their consumption as the housing market crashed. Also many people immediately started to repay their mortgages or build up savings faster as the crisis hit. This caused them a drop in income and in many cases consumption.

    If you are doing serious research in economics I suggest that treating a group of individuals as a single entity is usually a mistake.

    “Households decisions to save or spend are dependent on their expectation of future economic growth and easy availability of credit.” No, they are dependent on the properties of the population. This could include the amount of debt the population carries, the age demographic of the population, the number of employed people in this population.

    • RJ

      “The main reason that people eat into their savings, go into debt is that through the financial system there is constant inflationary pressure, through expansion of the money supply (credit and base).”

      I’m confused by you logic here. People take on debt in the good times to

      Consume or

      They consume today and plan to pay it back tomorrow. Or invest hoping to make a profit.

      This increased debt (from bank lending) always creates additional bank credit (bank deposits). This means increased bank credit is chasing the same volume of assets like shares or houses etc (unless Govt issue new Govt bonds for the non bank sector).

      So good times = more debt = more credit which might = inflation

    • Ben Dyson (Positive Money)

      “I don’t strictly agree with the idea that banks trick people into too much debt and spending.”

      Not in all cases certainly, and I don’t think that was the blanket assumption. However, there are plenty (millions) of cases where the mortgage advisor or a member of staff at a bank has made a loan to someone who shouldn’t have received it. Whether you call that trickery or not is a matter of opinion, but a loan officer, who should be trained in at least the basics of finance, is probably better placed to decide whether a loan is affordable than the majority of the population who have almost no clue about the impact of interest, debt affordability, variable interest rate mortgages, how the Bank of England sets interest rates etc. So it’s almost certain that in a lot of cases, a lot of individuals knowingly made loans to people who they knew would struggle to repay the loan.

      On another topic, it always annoyed me that they teach trigonometry in schools but don’t even bother to explain how a credit card works.

      • Nic the NZer

        My point was that you can’t treat a group of people like you can rationalise about an individual. People often state that consumerism is to blame for the state of the economy, but I think this is pretty silly idea in many ways. Yes as a whole the economy is heavily in debt, and there is lots of consumerism, but, most of the debt is mortgage & asset debt, not consumer debt. So you will not find that many people in the economy who live on debt. My other point would be that most of the housing stock has been around for a long time, it’s basically asset price inflation, not consumerism in improving the housing stock which causes the bubble.

        I believe that there are quite a few cases of predatory lending in the US, however, I think this skirts too close to expecting mortgage advisers predict the future. Most of the sub-prime mortgagees were able to sustain their debt, until the crisis hit, by re-mortgaging before the most difficult term of the mortgage kicked in.

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