1 Introduction

In recent years, the total debt of the household sector has risen appreciably. This has led to concerns about “excessive” borrowing, and to the possibility that some households may have become unduly vulnerable in the event of unexpected shocks. Falling house prices and the prospects of rising unemployment add to the concerns. Furthermore, these concerns have been reinforced by a declining and negative rate of aggregate household saving, as recorded by some measures.[1]

Household debt when used appropriately is an important mechanism to allow households to smooth their consumption over the life cycle. In the early decades of a typical life cycle, borrowing for investment in education and skills, housing or major consumer durables allows consumption spending to be higher than it would otherwise have been. In later years when incomes are typically higher, the borrowing is repaid, reducing consumption below the level that would have prevailed. In addition, it is not uncommon for small businesses to be financed by loans secured against property. As a result, what is recorded as household debt contains a portion of the capital used by unincorporated enterprises.

Clearly, the fact that households have accumulated debt is not itself either remarkable or a cause for concern. Neither is the increase in household debt in New Zealand necessarily alarming. Higher incomes, low unemployment rates, the expectation of lower rates of personal income tax, rising asset prices and greater access to credit following deregulation of the financial markets all would have been logically expected to result in higher debt to income ratios across the household sector.

However, while the overall picture may not indicate any serious imbalances, aggregate household data may obscure the fact that some individuals and households may have built up levels of debt to the point that the servicing costs exceed their available income. Furthermore, there may be other households on the borderline that can currently service high levels of debt, but remain highly vulnerable to any unexpected shocks. An illness, loss of a job or a rise in interest rates may tip them over into the “problem debt” category.

The aim of this paper is to draw on both aggregate and unit record data to assess the extent and composition of household debt; to analyse the distribution of debt; to examine the factors associated with high debt servicing to income ratios; and to consider the extent to which families are vulnerable to unexpected shocks. We have classified households whose debt servicing costs exceed 30% (or in some cases 40%) of their gross income as falling into the category of “vulnerable”. However, having a level of debt servicing that exceeds these limits is not in itself sufficient to classify the family as “at risk”. We consider that the families most “at risk” are those estimated to have high debt servicing costs in relation to their income and at the same time report having negative net wealth.[2]

The paper is structured as follows. The next section reviews highlights of some selected existing studies. Section 3 presents a synoptic view of household liabilities, based on data from the Reserve Bank of New Zealand (RBNZ), which extends to the end of 2007. Section 4 introduces the Survey of Family Income and Employment (SoFIE) and summarises the data from wave 2, which covers the year ending September 2004. Based on the SoFIE data, Section 5 analyses the extent of “problem debt” and vulnerability. Conclusions follow in Section 6.

It is acknowledged that the level and distribution of household assets and liabilities could have changed since 2003/04. The extent to which debt is a problem may well have increased as a consequence. For this reason, in Section 5 we make some limited projections to 2008.