| The Debt Mask |
| Transcript, July 17, 2005 |
Program Summary
Personal and household debt has never been higher and there's an industry based on lending us more money. It's OK during good times, but there's anxiety about the next part of the cycle.Program Transcript
Stan Correy: While the outlook for the African debt is a little better, the level of household debt in the rich western countries is soaring. In Australia alone, even with a cooling economy, total household debt reached $766 billion in May.Hello, I’m Stan Correy and this is Background Briefing.
The Reserve Bank says debt levels are historically high but it’s okay because there’s low inflation and low unemployment.
Others are not so sanguine, and say even in these good times, there’s a lot of financial distress in the community. It’s being lost at the moment by the beautiful numbers, and people are canny at masking their troubles: borrowing from Peter to pay Paul, juggling credit cards, consolidating debts, refinancing, and putting off the evil day.
In May, on ABC morning radio in Queensland, Steve Austin asked about this during an interview with Prime Minister John Howard.
John Howard: It is true household debt is high. It is also true that household assets are at a record high. It’s one thing to rack up debt while your assets are declining, it’s another thing to rack up debt while your assets are increasing in value because the capacity of people to meet their debts has risen as well as their debt. So I think we have to keep a sense of perspective about this.
Steve Austin: Am I right in saying we have the fastest-growing level of consumer debt in the OECD?
John Howard: Well, there are different measurements of that. But I’m not arguing that it’s growing rapidly, but the point I’m making is, that that is a mark of consumer confidence; it’s also a mark of the capacity of people to repay. If you have valuable assets, and you have a capacity to meet your debt, there is inherently no great evil in incurring some debt.
Woman: It seemed like easy money, you just hand a piece of plastic over, you don’t realise that you have to pay it back, you really don’t. You don’t think about it at all. It’s credit, credit, credit, credit until the bill comes in and you’re like, What am I going to do?
Stan Correy: While times are good, we have the wealth in property to draw on to service our debts. But all good things come to an end, and bubbles pop. Financiers and economists hate the word ‘bubble’: it casts an ominous shadow over economic history. In 2003, a Reserve Bank economist talked about what led to the bursting of the great bubble of the 1920s.
Reader: New technology in the form of the motor car, aircraft and radio, was seen to herald a new era. In sum, these technological innovations, not for the first or last time, contributed to a feeling that the old rules no longer applied. As with previous bubbles, credit was relatively easy to obtain.
Stan Correy: In the 1920s, enthusiasm abounded, credit was easy to get, and people believed that the business cycle would continue and the market would manage. Financial wizards decide whether we are in a financially fragile state by looking at the statistics on loan defaults, bankruptcies, and probably goat entrails and tealeaves. Gone are the days of ‘Neither a borrower nor a lender be …’ William Shakespeare’s words drummed into the heads of so many children decades ago.
Australian consumers in mid-2005 are more cautious about borrowing because of the Reserve Bank’s interest rate rises over the past year. But that doesn’t mean the lenders have gone away.
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Stan Correy: You can now get a child care deal interest free, or arrange a housing loan at your local newsagent. There’s low interest credit cards promising to save you from the high fees and interest rates charged by traditional banks. You can mix up your personal debts with your business debts, or borrow from your Mum.
And if you still can’t pay up:
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Stan Correy: There’s a whole new industry now in what’s called The Debt Market. There’s money to be made out of your need for credit, your need for consumer goods, for the gratification of our lifestyles.
[Song]
Stan Correy: The Debt Market is made up of companies that will consolidate your debts into one big loan, lumping your mortgage in with your car repayments, your furniture loan, and almost anything else. They’ll lend you the money, and help you manage your debt. Of course, there’s a charge for it, but it solves your problem in the short term.
Background Briefing asked listeners to ABC Radio National’s breakfast program to write in about their experiences in access to debt, and we also asked Jason di Rosso to visit a suburban shopping mall to get a range of views.
Jason Di Rosso: Do you think it’s too easy to get a credit card today?
Woman: Very easy, very easy.
Jason Di Rosso: Is it too easy?
Woman: Too easy.
Man: I can answer that. I just turned 18 and I applied at the bank and I got a Visa card straight away.
Jason Di Rosso: And what did you have to show them to prove that you could pay back your debts?
Man: Nothing , nothing I had no money, I just opened a new bank account and I was given a Visa card. St George. In Earlwood.
Woman: He doesn’t work. Very easy. Apparently all this bank, according to what I think, they don’t care if you have money or not, because then they charge the percentages high, so they’ve got the money back anyway, they never lose. We are the losers. I won’t use plastic cards, I’m doing with cash, and apparently what I’m doing for some people I’m a little bit crazy, but I like my old-fashioned, I like to be in control and the government know what I’m doing; when I’m going with a card, what I buy or what I not.
Jason Di Rosso: So would you describe yourselves as just coping?
Man: Yes.
Woman: Pretty much so, yes.
Jason Di Rosso: And what would tip it over the edge for you?
Man: Home loan interest rates going through the roof, up to 14% or something like that, that would tip us over.
Jason Di Rosso: The statistics say that household debt in Australia is at a record high, but the Reserve Bank says people are coping, so it’s not a problem. Would you agree?
Woman: No, not necessarily, actually. I think household debt is really high and everything gets moved into your mortgage now: your car finance, no, I think it’s actually a lot higher and harder.
Stan Correy: One of the largest companies in the world, General Electric, has a subsidiary called GE Consumer Finance. It has $150-billion in assets, and is the fastest growing company in GE’s stable. GE Consumer finance is not a bank; you can’t deposit with them, you can only borrow from them and use their financial services.
In May, its European Chief Executive, Daniel O’Connor, gave an upbeat speech at an investment conference, talking of it as a $17 trillion marketplace. Here are readings from part of his speech.
Daniel O’Connor: This is a ginornmous marketplace. It is a $17 trillion space that we operate in, and while we recognise our business has grown in size, we still are tiny in the worldwide consumer finance and market base.
Stan Correy: Mr O’Connor went on to detail how GE was expanding to carve up the marketplace across the world, and go into India and China. And the growth areas for GE, mortgage finance and debt consolidation.
Daniel O’Connor: This chart here just shows the relative return and then the speed of growth. It is roughly a chart that depicts the world, and what it says is the size of the bubble is the size of the market. You see, the mortgage is about two-thirds of the worldwide market.
Debt consolidation is the small bubble at the top. Debt consolidation is where I take your personal loan, also your credit card, add it all together, spread the payments and dramatically reduce the annual percentage rate. Great value proposition for customer, huge success in the States. The UK, over the last five or six years, has seen phenomenal growth in that.
Stan Correy: One of GE’s biggest and most profitable markets is Australia. They’ve been acquiring a variety of consumer finance companies in the past 12 months. Wizard Home Loans last year and in the past week, they’ve launched a new credit card. They aim to be No.1 in everything they do.
Infochoice is an Australian company that specialises in providing analysis of the consumer finance industry. Denis Orrock says every move made by GE frightens Australia’s Big Four banks.
Denis Orrock: The Big Four and Don Argus when he was at NAB said that GE was the company that keeps him awake at night, and that’s for good reason, because GE are a massive, multinational organisation. The size of that company would rank as one of the biggest companies in the world. And their cross-selling ability and the way they actually go into markets, and when GE go into a market, they’re going to dominate, they’re going to be No.1, they don’t go into a market just to compete. They go in to be number one.
Stan Correy: For companies like GE, the old-style 25-year mortgage is passé and the choices in financing are now dazzling. Credit cards, no interest loans, consolidation, refinancing, debt management, financial services. All of it very complex, and there may be 40 pages of fine print.
Denis Orrock of Infochoice.
Denis Orrock: Now the mortgage that we have today, and that has been promoted by all lenders today, is a much more functional facility; it allows you to re-draw, it allows you to consolidate your debts into your mortgage. So in theory, the consumer thinks that they’re paying off all their debts at a cheaper rate, but what they’re actually doing in some instances, and we see it with home equity where we have large concerns with people drawing on their home equity for example, to buy a new car. Now what they’re thinking is that they’re buying a new car at 6% or 7% interest, but they’re paying that over 25 years. So over the course of 25 years on that car, they’ll pay for that car probably one-and-a-half times. So if the car was $25,000, they’re probably going to repay $60,000-plus over 25 years. This has all happened in tandem with a housing boom, a real rapid appreciation of house values, of property values, which has made a lot of people who weren’t wealthy theoretically quite wealthy with what they’ve got in the ground. So a lot of people with access to that equity to buy consumable items or go on holidays, when people are using it for consumable items such as to buy a new car or a boat, we saw the advertisements, equity mate type of advertisements, that’s where we have some concerns that people are buying what are rapidly depreciating assets and for that asset they’re trading valuable equity in their properties.
Stan Correy: That’s interesting, because you began that answer by talking about the issue of debt consolidation, which seems to be a very hot topic at the moment, and also it seems strange that it’s the same people who are giving the credit, are also then talking about how you can manage your debt. Am I right in that?
Denis Orrock: Absolutely. Debt consolidation for a lot of people can make sense, consolidating all your credit card debts for example into your home loan. But the borrower has to make a number of decisions. They have to make the decision they’re not going to reincur that credit card debt, they have to make a real commitment to make over and above repayments to ensure that they pay that debt off as fast as possible. If they just simply just keep repaying them in a monthly repayment, well they’ll once again just as with the motor vehicle, they’ll pay for it close to two times. So they really have to make some commitments to themselves to really get that debt paid off as fast as possible.
Stan Correy: In January, the Reserve Bank commissioned a survey to find out how much Australians used their mortgages to buy other products.
The new debt promoting industries are no doubt designing new products to keep ahead of the regulators. It’s almost a business cliché that the market is always one step ahead.
The industry is an international phenomenon, riding on deregulation and the good times. And there are critics, such as the author of the book ‘Credit Card Nation’, who say the industry now oversells its product, and interest rates and fees are too high. Professor of Finance at Rochester University, Robert Manning.
Robert Manning: The key thing to keep in mind is that we’re looking increasingly at a post industrial economy, and what has happened as a part of that new global shift is that there’s more money to be made in financing the consumption of goods than there is to be made in the consumption of goods. And so what you’re seeing here is that on the one hand, in terms of sustaining the global growth and expansion of commerce, and keeping prices low, wages low, and taxes low, what has been integral in this five-years since ‘Credit Card Nation’ came out, was the global expansion of consumer credit, and the rise of many related debt promoting industries. And so what we see for example in the United Kingdom, has been a sharp rise in the cost of housing that’s created an inflated asset value of households that has then led to the encouragement of greater consumption with credit cards, which has then led to the rise of a new debt consolidation industry. It’s rather extraordinary how quick all this has transpired in such a short period of time.
Stan Correy: In that short period of time, a relatively new division of the very old company General Electric, has set the pace. So much so that it forced a restructure of the whole company earlier this month. And the emergence of companies like GE Consumer Finance has created a headache for financial regulators and the traditional banks. They’re not a bank because they don’t take deposits, but they’re one of the biggest financial services firms in the world. Who monitors them?
Here’s Robert Manning.
Robert Manning: That’s a very interesting point. One of the issues of my most recent work is that you’re seeing the emergence of hybrid financial service companies, the nationally chartered banks are regulated by the US Congress and by the federal regulators the Office of the Comptroller of the Currency. The state-chartered banks are regulated by the Federal Deposit Insurance Corporation, as well as their state regulators. And now what you’re seeing is the emergence of these new kinds of companies. They’re not depository banks, they’re not state-chartered banks that take deposits and make loans, we’re starting to see companies like GE emerge. As a result, they haven’t had a traditional regulator to follow them, and as a result they’ve been able to lobby for more preferential treatment in terms of regulation in the US Congress. And they saw huge global opportunity, which is why you’re seeing them expand so rapidly throughout the world.
Stan Correy: Yes, but very little information about how they operate really.
Robert Manning: Well the way they operate is very simple. They come in as a big hammer, and they will be No.1 or No.2 and set the industry standards in that country, or they won’t come in at all. And that’s where this risk-based pricing policy of the financial institutions is so critically dependent upon the amount of financial information that can become public to private corporations. For example, in the United States, even if you don’t have a relationship with a bank or a financial services company, they can request a copy of your credit report, and essentially try to figure out what kind of product that they want to sell you. Whether you want it or not. So it becomes incredibly predatory for people, especially with financial distress.
Stan Correy: Dealing with financial distress is the job of Jan Pentland, who works as a financial counsellor in Melbourne. She’s also president of the Australian Financial Counselling and Credit Reform Association. Her work has changed in recent years, because the consumer finance industry has become more complex. There are more companies with more products offering solutions to financial problems.
Jan Pentland: Look, it’s quite a complex landscape, Stan, that’s certainly true. There is a plethora of credit available from the traditional mainstream lenders that we’re all familiar with, right down to what I would call the marginal lenders in the very margins, the low doc loan people, the pay day lenders, the pawnbrokers, the people who advertise in your local suburban newspaper that they can consolidate your debts, they’ll secure your house and we see many sad stories where people who’ve got quite low income will be taken in by those sorts of offers, and will perhaps get an interest-only loan, and then find that ultimately they lose their house, that’s the end of the story for them.
The other issue is that because credit is pretty easy to get these days, and particularly with that notion of, Oh well, if you get into a bit of debt with your credit cards, we can always refinance the mortgage and that will solve that. But really, that’s a short-term answer quite often to a long-term problem, because people finance that round of credit card debt into the mortgage, and then rather than cutting up those credit cards and not using them again, they will tend to use them again, and even if they do cut them up, you’ll find that the lenders will send them out to them again, and it’s quite a temptation. So people sort of get into this cycle of carrying a higher and higher debt load, until ultimately it gets to the point where it can’t be managed.
Stan Correy: Scores of listeners sent in their stories of debt problems, and we’ve had readings done of a selection of them.
Reader: I’m a single male on a disability pension. Because of my rural location I have to retain a car simply to get to town for shopping. I have a phone and the internet. I’ve had to accept each one of the steady stream of unsolicited offers of increased credit limits for my four bank cards. But I’ve now reached the stage where the limit increase offers have stopped. The cards are all maxed up to a total of $75,000. Interest payment alone almost equals the disability pension. At present I’m using up money I borrowed against my house, but my net financial worth is already negative.
Reader: I’m absolutely furious about the debt my son is in. The problem is that the credit card companies and banks constantly offer him more credit, and being a young man interested in all the material goodies out there, he grabs the chance. He’s in debt to the tune of some $15,000 and I can’t see him paying that back. I’m not the only mum out there with this problem. It’s outrageous that the credit card companies and banks aren’t more responsible about their lending habits.
Reader: I’m a professional, I work hard and don’t take time off. My field is poorly paid and is highly responsible. I struggle to make ends meet as a single, 50-year-old person. I have two credit cards that have tied me to the ground. I can’t afford to go out, and I lead a very mundane life. With the price of fuel about to go through the roof, I can’t see my life improving. The credit cards are so easy to use when things are tough.
Stan Correy: The credit card dominates any discussion about the growth of debt. According to the Reserve Bank, around 70% of Australian households own at least one credit card and it says that changes in credit card use can provide early warning signs of financial stress in households. Indicators are things like being behind in credit card repayments or using your credit card for cash withdrawals.
But there’s a conundrum. There’s constant chatter about financial stress, and yet the economists poring over the official statistics say we seem to be managing.
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Stan Correy: No wonder the marketing campaigns luring people into more debt are so appealing. It’s been called Seduction by Plastic.
[Music]
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Stan Correy: Mike Ebstein from MWE Consulting in Melbourne is a consultant to the credit card industry, and compiles reports on Australian credit card use taken from Reserve Bank statistics. Credit card growth has boomed in recent years, but for Ebstein that doesn’t mean economic disaster on a personal or national level.
Mike Ebstein: I don’t really think that some of the social groups and the regulators give credit to the Australian population. I think they are more sophisticated and more complex in their payment behaviour than they’re given credit for. I think a lot of the concern about the credit card industry comes from the huge growth in card usage. There’s no other way to describe it. From the mid-‘90s on, credit cards grew at a very substantial rate. It reminds me a bit of going back a little further, going back ten years ago, when it was difficult to use a credit card in a supermarket. Most supermarkets didn’t accept them. When that started to change, a lot of the consumer groups were up in arms, and they said, ‘This is not ethical, it’s immoral, it is wrong to allow people to buy staple food, milk and bread, with their credit card. This will lead to terrible distress.’ It didn’t. It did lead to substantial grown in card usage, which has not been matched by a corresponding growth in card debt.
Stan Correy: Mike Ebstein says that even with the phenomenal growth in the use of credit cards, credit card debt is still only 3% of the total debt.
When Australians purchase goods they’re more likely to use a credit card, although for cash transactions, they still prefer the debit card, which only allows them to draw on their own savings.
I asked Mike Ebstein if there was this sophisticated use of credit and debit cards by Australians, why the continuing angst about credit card debt?
Mike Ebstein: I think there are both completely rational and also some emotive responses to that. Today the credit card is used as a legitimate payment method instead of cash and cheques. So what has become a transaction card, as distinct from a credit card. And so this growth in card usage, which alarms a lot of people, that alarm fails to recognise that in a significant number of those cases, there’s been a change not in total expenditure, but in payment behaviour. Fifteen years ago it would have been almost impossible to use your credit card to pay your doctor. Today, there’s hardly a doctor that doesn’t accept credit cards. So I think that’s been a significant factor. But that’s not the only factor.
It’s also true that from 1995 the industry in addition to providing increased acceptance, provided an incentive to use your credit card, with the launch of the General Motors card, and the Telstra card and then the Qantas Telstra card, and associated reward programs. People were being given an incentive to use their credit cards, rather than a debit card or cash or cheques or a store card. So that was another significant factor.
Their resource had the emotive issue, and there’s no doubt that it comes into play in some cases where the card enables impulse purchasers, where the person doesn’t have the cash in their pockets, and may not immediately know how they’re going to get the cash to pay the bill, and they make an irrational purchase decision. Not all impulse decisions are irrational, but some of them are.
Stan Correy: One recent American study of credit card use called the credit card, ‘a lifestyle facilitator’. The card allows the average worker, and the middle classes to enjoy benefits that previous generations couldn’t. But the same study also talks about the downside, about the credit card creating a modern debtors’ prison, where people aren’t locked up, but are trapped in a debt cycle.
This is a world familiar to Karen Cox, director of the Consumer Credit Legal Centre in New South Wales.
Karen Cox: Look, we run a hotline service where people can call our service for assistance in relation to debt and other banking issues. We’ve taken around six and a half-thousand calls in the past ten months since we started running that service. We have a steady stream of people contacting the service daily, saying that they are not managing their debts.
Stan Correy: Karen Cox is well aware of the figures about household and personal debt published by the Reserve Bank and credit card consultants like Mike Ebstein. The figures do show that the number of people defaulting, that is, not being able to pay their debts, are low. But, Karen Cox says, the real situation is more complex.
Karen Cox: I think one of the big concerns for us is that a lot of the, not complacency, but calmness, I guess, from government, from the financial industry itself, from the Reserve Bank, is based on looking at default rates. And the fact that they’re historically low. Some of the problems we have with that is it seems to conflict with the evidence we’re seeing daily, of the callers that are coming to our service are clearly in stress who may not have defaulted, but are nevertheless in difficulty. Secondly, we’re very concerned because more than ever before, a lot of those statistics are based on people making minimum payments, minimum payments towards credit cards, minimum payments towards interest-only loans, even housing loans that have an interest-only component, which are lines of credit. In that sort of circumstance, you have people who ostensibly are managing, who are not defaulting, and yet they are getting nowhere. They’re making no inroad on their debt, and they remain vulnerable to all manner of shocks such as loss of income et cetera, for very long periods of time.
The other issue for us is because we have seen a number of people who have consolidated all manner of debt into one housing loan with a non-mainstream provider, those people will never appear as default statistics, and certainly not default statistics with the major banks and other institutions that are under the government’s close control. And I think probably one of the most common things people say to us when they call us, is, ‘No, I’m not in default, but I pay and I pay, and I pay, and I never seem to get anywhere.’
Stan Correy: There are many canny people who do manage their cards and debts well, says Karen Cox, but there are a growing number she sees who are on the edge. For the time being these people are still able to just juggle a lot of their cards, borrow from relatives, and try refinancing or debt consolidation. And these new debt services are masking the real situation.
Karen Cox: There is a group who are just as canny about masking some real financial difficulties, and they are people who are using debt consolidation wisely, there are people who are using card transfers, there are people who are using all manner of ways to try and tread water. More and more often we hear from people who either are only facing that type of unsecured debt, and are looking at bankruptcy as a result of that type of debt. Or people who have a mortgage and credit cards, and it’s the credit cards that are tipping the balances, the credit cards that are expensive and difficult to repay, it’s the credit cards that are more difficult to keep under control.
Stan Correy: The banking industry Ombudsman deals with complaints from bank customers who feel they’ve been badly treated. In the year 2000, 24% of all complaints relating to lending were to do with credit cards. By last year, it was 65%. One of the complaints was about an elderly pensioner who lived with her son in public housing. The pensioner requested the bank to increase her limit from $1,000 to $2,000. The bank agreed, and in subsequent years offered the pensioner increases until it reached $22,500. The bank thought she was managing her card because minimum payments were being made.
Ombudsman Colin Neave.
Colin Neave: That was the case which involved a pensioner who, based on her good performance with a credit card, had quite a significant increase made to her limit, and that apparent good performance was as a result of contributions being made to the amount outstanding under the credit card by her son, who was living with her. So from the outside, that is, on the part of the financial services provider, who was providing the credit facility through the credit card, it looked as if she was doing rather well in her repayments.
However that was only because of the contributions made by her son, and that’s why we would say that some check on the actual ability of the cardholder herself to meet the commitments under a credit card, is something which should be undertaken by a financial services provider. In other words, behavioural scoring is what it’s called in the financial services business, is in the vast majority of cases, a very good indicator of someone’s ability to deal with their credit card, but in some cases, it can be very misleading.
Stan Correy: You’re listening to Background Briefing on ABC Radio National where we’re inflating and deflating the Consumer Credit Bubble and trying to measure how financially stressed we are.
Here are readings from more emails and letters from listeners.
Reader: Banks, for example Westpac and financial corporations, for example, American Express, encourage debt accessibility by posting material through the mail, and by telephone pressure calls. I’ve had many horror stories from friends and community members of their vulnerable, newly-employed older youth being caught up in money-making schemes via the banks and finance corporations.
Reader: I have one job where I earn around $50,000 and a second job at weekends. I re-financed again just recently to pay out two credit cards and a store credit card, and now my total mortgage is $270,000. My repayments are $458 a week. I’m worried about retirement, as I don’t have much super.
Reader: Continued promotion of interest-free periods for years in large print posters and media advertisements effectively obfuscate the miniscule print under the asterisk. In this way, if the debt is not cleared, then 4% or 5% interest is added to the monthly impost of around 20%.
Stan Correy: Last May was, for some unknown reason, a very active month for describing, analysing, and getting passionate about credit cards, consumer credit and household and personal debt. Around the middle of the month, the Australian Senate Economics Committee was investigating household debt. One of the issues being thrashed out was the way financial services institutions are giving people unsolicited credit increases on their credit cards. That is, lending you more money even though you haven’t asked for it.
The Consumer Credit Legal Centre in New South Wales is concerned about this practice and wants tighter regulation.
In the Committee hearing, Katherine Lane, a solicitor working for the Legal Centre, is asked a question by Senator George Brandis, Liberal, Queensland, about the consequences of regulating credit card increases. Was this being too protective of an individual’s behaviour?
George Brandis: You propose imposing these stricter requirements from credit providers, there is going to be a group of people in the community, is there not, who can now get credit, who won’t be able to get credit and indeed the whole purpose, policy point of doing that is to prevent people who can’t handle credit, of receiving credit and therefore being exposed to a situation in which they can’t keep their heads above water?
Katherine Lane: I’m not sure that will occur. The reason I believe that is that before, there was an explosion of unsolicited limit increase, and I’ve run lots of cases on this issue, okay? And every time I look into the case, it happened in about 1999, there were limit increases before then, but about 1999, there was an obvious policy decision by most of the major banks to do unsolicited limit increases, as a way of generating business. And when you go back to the period before then, when they had the $500 or the $1,000 limit, they were managing it, and handling it, and it only got out of control once the unsolicited limit increases appeared. So I can see, I can say, conjecture, that basically if we returned to that type of environment, then those people would still have the credit card because they were able to get the credit card then, they would only have a manageable limit, and they would still have credit.
Stan Correy: Another interesting contribution at the Sydney hearing came from the Australian Bankers’ Association. They were asked a question about the levels of financial stress in the community, and they said they rely on the Reserve Bank statistics, and these show levels of default are low, and that means the evidence of stress isn’t there.
David Bell and Nicholas Hossack from the ABA.
David Bell: We do acknowledge there are people who on occasions get too much money. We try everything possible to mitigate against that. We’ve got financial literacy programs in place, and we try and actively manage people’s accounts and make sure that doesn’t happen.
Nicholas Hossack: The only thing I’d say is that finding the right indicator of a household’s financial stress is a very difficult exercise to do. It’s something we have given thought to. We never make the claim that because defaults are at record lows, that means there’s no financial stress out there at all. It’s a good indicator that overall things are looking pretty good for the economy, and for households in general. But when you move away from defaults and look for some other measure, you then get into a debate about judgment, and that’s an awkward debate, something which we haven’t seen any definitive research or definitive answer to, but it’s something that we’re engaged in, we’re looking at it, and we’re interested in seeing there’s something useful we can do.
Stan Correy: At almost the same time, in mid-May, similar issues were being thrashed out in Washington, DC. The US Senate Banking Committee met to hear industry and consumer activists’ views on credit cards, consumer finance and rising debt.
One of the most controversial issues in the US with the credit industry is their direct marketing to college students of special credit cards. Here’s Senator Christopher Dodd, Democrat, Connecticut.
Christopher Dodd: First, it is one of the few market segments which there are always new customers to go after every year. 25% to 30% of undergraduates are fresh faces, entering their first year of college. Second, there’s also an age group in which brand loyalty can be readily established. In fact most people hold on to their first credit card for up to 15 years, which is probably the amount of time it takes them to dig out of the amount of credit card debt they will incur in their teen years.
A staffer of mine recently opened her 7-year-old’s mail, amazed to find a brand new American Express card. The new card came as a result of, according to the offer, the elementary schooler’s (and I quote) ‘excellent credit history’. A brand-new potential victim of the credit card industry. He’s 7 years old, what’s next? Are we going to set up credit card kiosks at hospital maternity wards?
Stan Correy: Senator Dodd, speaking at the US Banking Committee hearing on consumer credit in May. One of the witnesses at the hearing was Robert Manning, Professor of Finance at the Rochester University, and he spoke to Congress about various problems he was seeing in the debt promoting industries. Here, speaking to us on the phone from the US, Professor Manning.
Robert Manning: One example I felt was most extraordinary in the late 1990s in the United States was when the US Treasury Department began selling savings bonds over the internet, and you bought them with credit cards. So here are people who are paying 19% interest on their credit cards for a savings bond that pays 5%. So is that person a saver or a debtor?
The other thing that’s truly extraordinary about what’s happened in the United States and what you can anticipate happening throughout the world is that it’s very easy to get a loan now, it’s very hard to increase your income. And what I mean by that today is that before the deregulation of financial services, Americans could get a loan based on how much their income was and how much they were in debt. Today that’s completely changed. You can get a loan based on your income of course and debt, but also whether you own a home, you can borrow on your home, if you own a car, you can borrow on your car, you can even borrow on your pension fund today that you couldn’t do 15 or 20 years ago. So what we’re seeing today is that most people don’t even realise how much they’re in debt, because they’re thinking The market, the stock market, the housing market is going to magically erase all their debts.
Stan Correy: Robert Manning.
Stress and debt are words that seem to go well together. The very word ‘stress’ gets financial regulators in a lather. APRA is the institution that regulates our banks. They stress-tested, using some complex methodology, the capacity of our banks to withstand around a 30% fall in housing prices. Would it break the banks? No, they concluded. But what about stress testing Australian households and their capacity to service our record household debt.
Denis Orrock of Infochoice.
Denis Orrock: What’s the Australian consumer’s ability to be able to take a hit for a sustained period of time where the market may come off, jobs may be lost, properties just won’t be selling; we’re already seeing obviously in the Sydney property market, some areas we’re seeing reports of property down 30%. That’s where a lot of people concerned is with Australians in more debt than ever before, what’s our capacity if things go bad?
I suppose the other thing we need to look at is the way Australians have used debt. A lot of small businesses now would be using their equity and re-draw facilities on their mortgage as cashflow facility for their small business. If you’re paying a mortgage at 6% or 7%, a lot of commercial finance for those small businesses would be priced at 12%, 13%, 14%, well it makes sense, as long as they’re disciplined and have a good strategy in place.
Stan Correy: That’s an added level of complexity, isn’t it, when the household debt gets mixed up with the business debt, doesn’t it?
Denis Orrock: Oh, absolutely. And when people are drawing on home equities for investment purposes and then obviously they want to claim portions of interest paid for tax purposes etc., and that’s when people need to be very well advised.
Man: I’ve no outstanding debt. My credit card is fully paid on time each month. I was taught debtless money management as a kid, and not to be greedy for things one cannot afford to buy.
Woman: We first got a credit card in 1993 when we took out a housing loan. At that time the limit was $2,000, and we used it wisely and we always pay off the entire amount each month. But in the 12 years since then, our limit’s been increased t $19,000. This has happened without any request from us. We couldn’t possibly afford that amount of credit, and we’d quickly fall into a spiral of debt if we were to use even half that amount.
Man: It occurs to me that the new Industrial Relations laws, which radically reduce employment security, may have an effect that the government has not considered. If every business with the less than 100 employees can now just drop people when things get a bit tight, the banks risk profile on existing loans will change overnight. I can see a knock-on effect if things tighten up a bit.
Jason Di Rosso: What do you think will tip it over into a crisis? I mean is there a crisis looming, in your opinion?
Woman: Individually, or just generally? Individually, no. We both work and we don’t spend more than we can afford I suppose. But generally I think yes, people spend so much money and just have so many credit cards, particularly kids as well, with their mobile phones.
Jason Di Rosso: How many credit cards do you own?
Woman: Three.
Jason Di Rosso: And are they all sort of regular cards?
Woman: One’s a store card, and the other two are regular, Amex and Mastercard.
Man: In the olden days it used to be called usury. We used to hang people for it or cut one of their legs or their thumbs off or something like that, because they were exploiting people. And now this is what’s going on. The Banks are just as bad, well they own the cards, and they’re very interested in people, in fact when the cards first came to Australia, from the States, the banks were disappointed because the Australians at that stage were paying them back before the expiry date, and so there was no interest chargeable, which is where the banks made their money in America. And of course they’re making it here now.
Jason Di Rosso: Is it going to explode, or...?
Man: It’s got to explode, because people can’t survive. You can’t survive. I mean if you’re spending $100 a week and you’re only getting paid $80 a week, there’s $20 somewhere that you haven’t got, but because of clever manoeuvring, you can get this money advanced from bank cards or a combination of all that. But the day of reckoning has got to come.
Stan Correy: The complexities of modern consumer finance are often lost in the slick advertising that bombards us on the Internet, radio, television and newspaper. Understanding it has become a political issue, with several ongoing federal and state government inquiries. The federal government set up a Financial Literacy Foundation to educate Australians on how to avoid the numerous traps waiting for innocent and ignorant consumers out in the market place.
Consumer law expert, Professor Justin Malbon, said that while there’s plenty of new products out in the market, some of the issues haven’t changed for thousands of years. When lending gets out of control, debt becomes a form of slavery.
Justin Malbon: We do imagine that these are modern problems, but I must admit I was surprised when I did the research, just how far back the issue of dealing with predatory lending goes. It goes back to the ancient Sumerians in Babylonia 3,000 years ago, and there were problems where people would incur debt and so in terms of repayment of that debt, people were put into slavery. And the slave owners, those who lent the money, would treat their slaves with unbelievable cruelty, gouging out of eyes and so on. So that began the first laws to allow debt relief, or what we would now call bankruptcy, the clearing of the debt, plus there was banning of exploitative behaviour, in particular, turning people into slaves.
So there you go, something 3,000 years ago. So that’s one ancient institution. And another ancient mechanism for regulating credit is interest rate caps. Interest rate caps go pre-Roman times. But what’s also really interesting is the reluctance of various Roman Empires and Chinese Empires and Europeans and all the rest of it, who imposed these interest rate caps of bothering to enforce it. So there are widespread breaches of interest rate caps perennially shown through history.
Stan Correy: Professor Justin Malbon of Griffith University Law School.
In the world of credit and debt, no one is more conscious of economic history than central bankers. Our Reserve Bank has been proactive in pushing for change in how banks charge fees for use of credit cards and introducing more competition into the industry. And Reserve Bank governor, Ian Macfarlane was instrumental in getting the Australian debate about household debt going, earlier this year. Here he is speaking on the issue in February to a Parliamentary Committee.
Ian Macfarlane: As long as they’ve got a job, most people will continue to service their mortgage whether the house price has fallen or not, or whether the interest rate’s gone up or not. The crucial danger is if they lost their job, then I think the main effect we would see would be consumption spending would fall very, very sharply.
Mr Ciobo : Offsetting confidence measure is the fact that unemployment is now significantly lower than it was when we’ve had similar situations in the past.
Ian Macfarlane: Well we haven’t had a similar situation in the past. I mean the 1980s recession, the household sector didn’t play a very big part in that at all. I mean that was a boom and bust in the corporate sector. Now the household sector did slow down of course, but the triggering event, the debt story, the excessive debt story of the ‘80s was all about the corporate sector, not about the household sector. The household sector had very modest levels of debt at that time. The Australian household sector was a very conservative household sector. This is the first time we’ve faced a situation with a household sector which is pretty heavily geared, and we haven’t had that before.
Stan Correy: Thanks to all the Radio National listeners to contributed to our unofficial debt survey.
Background Briefing’s Production Coordinator is Linda McGinnis; Technical Producer, John Jacobs, and Researcher, Jason Di Rosso. Background Briefing’s Executive Producer is Kirsten Garrett. I’m Stan Correy, and you’re listening to ABC Radio National.