Overlevered Brits Facing Their Day of Reckoning

If you read between the lines of the Financial Times story that served as a point of departure for a post earlier this evening (“Desperate Central Bankers to Bail Out MBS Market?“) it was clear that the Bank of England was the most keen to shore up the wobbly mortgage securities market.

This New York Times article, “Debt-Gorged British Start to Worry That the Party Is Ending,” explains why. The British are on the same downward path we are on, with perhaps a one-year delay, and an even higher level of gearing.

From the New York Times:

At one point, Alexis Hall had more than 50 pairs of designer shoes and handbags. It never occurred to the 39-year-old media relations executive from Glasgow that her £31,500 in debt ($63,000) would be a problem.

“It was so easy to get the loans and the credit that you almost think the goods are a gift from the shop,” she said….

As the United States economy weakens, many Americans are being overwhelmed by personal debt, but Britons are even more profligate. For most of the last decade, consumers here went on a debt-financed spending spree that made them the most indebted rich nation in the world, racking up a record £1.4 trillion in debt ($2.8 trillion) — more than the country’s gross domestic product.

By comparison, personal debt in the United States is $13.8 trillion, including mortgage debt, slightly less than the country’s $14 trillion G.D.P.

And while the Federal Reserve in Washington has cut interest rates, in an effort to loosen lenders’ grip on credit, the Bank of England’s interest rate increases last year are trickling through to mortgages at the very time home values are dropping and banks are becoming more reluctant to lend.

Until now, debt has mostly been a good thing for Britain. In the hands of free-spending consumers, it fueled economic growth. The government borrowed heavily in recent years to invest in infrastructure, health and education, creating a virtuous cycle: government spending led to job creation, which led to greater consumer confidence and more spending, which, in turn, stimulated growth.

Economists say Britain’s relationship to debt is complex, but at its core is a phenomenon more akin to recent American history than European trends. As in the United States, a decade-long housing boom and strong economic growth bolstered consumer confidence, creating a perception of wealth almost unknown in countries like Germany and Italy.

“Culturally, maybe also because of the defeat in the war, Germans remain reluctant to borrow and banks are often state-owned, pushing less for profits from lending,” said Alistair Milne, a professor at Cass Business School in London.

Since many younger Britons have never lived through a period of slow growth, few now see the need to hold back on borrowing, not to mention saving….

To her parent’s generation, Ms. Hall said, owing money beyond a mortgage was “shameful,” an admission of living beyond one’s means. Debt was also more difficult to get.

That changed in the late 1990s when American lenders, including Citigroup and CapitalOne, pushed into the British market with a panoply of new lending products. Fierce competition among banks meant potential borrowers were suddenly bombarded with advertising and offers for low- or no-interest loans and credit cards.

While Britain’s financial regulators watched the explosion of retail lending from the sidelines, their counterparts in Germany and France were more restrictive. As a result, the British market became the largest and most sophisticated in Europe.

The growth was also fueled by soaring demand for debt on the back of rising real estate prices and relatively low interest rates in the late 1990s and early 2000s. Those who did not own a house rushed to join the homeowners watching their property triple in value.

The trend on the Continent was the opposite. Home prices in most European countries barely moved, mainly because markets were more regulated, there was more housing stock and renting was more popular…

As the perception of wealth grew, the social stigma around debt disappeared. Borrowing became such an accepted part of life that today one in five teenagers does not consider being in debt to be a bad thing, a survey by Nationwide Building Society showed.

Debt levels increased further as it became easier to get loans, and retailers, like computer chain PC World, offered both goods and the loans to buy them. Consumers happily accepted, thinking that as long as they were deemed creditworthy, they were not in danger of defaulting….

The ease of the bankruptcy process, the availability of debt, the property boom and strong economic growth, lulled consumers into a “false sense of security that is now coming to haunt us,” said James Falla, a debt adviser at London-based Thomas Charles….

And things are changing. Growth has already started to slow this year, and the government lowered its 2008 forecast to 1.75 percent to 2.25 percent, after 3.1 percent growth last year.

Home prices are falling…. Last year, housing foreclosures reached the highest level since 1999 and are expected to rise still further this year.

And more than one million homeowners have adjustable-rate mortgages that are expected to reset in the next 12 months — to significantly higher rates…

According to a survey for the Office of National Statistics, less than half the population saves regularly, and more than 39 percent said they would rather enjoy a good standard of living today than save for retirement. Ms. Hall said she was among that 39 percent. She recently took out new loans, planning to repay her existing debt. But she ended up spending the money on more luxury goods instead.

This year, she published a book about her experiences. She said she did not expect the book’s proceeds to repay her debts, but it may help the growing number of people in similar positions cope with theirs.