6 Conclusions
The use of debt by households is a recognised method to allow consumption smoothing to even out short-term fluctuations, deal with unexpected crises and make lifetime investments in areas such as education, small businesses and housing. Borrowing for investments is an important mechanism for building a stock of assets as a basis for retirement income. Deregulation of financial markets has been accompanied by greater use of debt by New Zealand households. By some measures, New Zealand has a high level of household debt relative to other OECD countries. In contrast, debt levels in relation to income amongst lower income households are below those in other countries.
Recent trends in household debt (from 2002 to 2007) have raised some questions about whether there is a “debt problem”. It is certainly the case that household liabilities have grown rapidly over this period, largely as a result of borrowing for housing. At the same time however, the increased value of housing has meant that assets have also increased, to an extent that net wealth both per capita and as a share of household incomes has increased to unprecedented levels. However, as much of these gains have been generated by the rise in property values over the 2002/07 period, they stand to be at least partially retrenched owing to the correction in house prices. A high proportion of housing in both the liabilities and assets of the household sector does increase the exposure to price changes.
Among non-partnered individuals, those who have relatively high asset levels, who own homes, are young, male, or divorced or separated, tended to have significantly higher levels of debt in 2003/04. For couples, factors associated with high debt levels were home ownership, high levels of assets, higher incomes, both partners employed or identifying as Maori or Pacific Island.
The average debt servicing as a percentage of income was about 15%, with low-income families being about 5 percentage points higher. However, these distributions were highly skewed by having a few highly indebted families. A better measure of central tendency is arguably the median. For couples this was 6.8% of income and for non-partnered individuals this was 3.6%.
Typically between 5% and 10% of families with debt had debt servicing costs greater than 30% of their gross income in 2003/04, a cut-off regarded as one indicator of potential over- indebtedness. In this study we combined this criterion with also having negative net wealth. Those with positive net wealth are deemed to have a cushion in the event of a crisis and are therefore not at risk to the same extent. Less than 2% of non-partnered individuals and less than 1% of couples with debt had both negative net wealth and debt servicing obligations above 30% of their gross income in 2003/04. These people were potentially “at risk” owing to their level of debt.
For non-partnered individuals, those deemed at risk were concentrated in the younger age groups. However, for many in this group, their negative net wealth was in large part an artefact of accounting. Their liabilities included student loans, yet no corresponding assets are recorded. An important contribution of this study was to adjust for this and re-estimate the proportion at risk. Based on a highly conservative assumption that the extra lifetime earnings will at least equal the value of the student loan, our estimate of the share of non-partnered individuals with negative wealth nearly halved, and the share at risk fell by over 20%.
The analysis presented in Sections 4 and 5 of this paper was based on data from the second wave of the Survey of Family, Income and Employment (SoFIE) that was collected over the one-year period from 1 October 2003 to 30 September 2004. Clearly there have been changes in economic conditions since this period and it is possible that these changes have not only affected the level of assets and liabilities, but also the distribution of assets and liabilities with respect to various characteristics. Moreover, the proportions and characteristics of families in our “problem debt” and “at risk” categories may now be different from what we have estimated, with the proportions more likely to be higher than lower.
In part to compensate for this limitation we made some adjustments to reflect changes in macroeconomic conditions between the year ended September 2004 and June 2008. We adjusted both income and wealth data, along with the parameters used to estimate debt servicing costs (such as mortgage interest rates). However, in most cases the same scaling factors and parameters were applied to all families. One exception to this was earnings, where we introduced a random shock to recognise that there will be a distribution of income growth around the average. Although these adjustments are important, they will not fully capture the complex changes in the distribution of income and wealth since 2003/04. As such, our estimates of the proportion of families in the “problem debt” and “at risk” categories for 2008 might best be regarded as lower bounds. For non-partnered individuals there was little or no change in our estimate of the proportion with negative net wealth who also had debt servicing costs exceeding 30% of their income (ie, at risk). However, for couples, our estimate of the proportion at risk rose from 0.8% to 1.1% or, based on the numbers in 2003/04, increased from about 6,000 to8,000 families.
Currently, there is concern that falling house prices will leave some families who purchased recently with low deposits with negative equity. Using the broader measure of net wealth, we estimated that a further 20% decline in house prices from their level in June 2008 would increase the percentage of couples with debt who have negative net wealth from 8.3% to 9.7%. However, negative net wealth is not necessarily a cause for concern if the family can continue to meet its debt servicing obligations. A fall in house prices of this magnitude increases our estimate of the share of couples with debt deemed to be at risk (ie, having negative net wealth and paying more than 30% of income in debt servicing) from 1.1% to 1.9%, corresponding to approximately 5,000 families. Note that these estimates do not allow for the possibility that new entrants into the housing market may have higher gearing ratios than we observe in the 2003/04 data, making them potentially more vulnerable to house price falls. As such, a fall in house prices may result in a larger increase in the number of vulnerable families than our results suggest. But it should be emphasised that vulnerability does not automatically mean foreclosure. Typically forced mortgagee sales would represent only a fraction of those falling in the vulnerable category.
In summary, the overall position of household balance sheets in New Zealand does not appear to be a cause for concern. A caveat to this is the relatively high proportion of housing in both assets and liabilities, leaving households more exposed to changes in the housing market than they would otherwise be with a more diversified portfolio. The proportion of families which could be considered at risk is low. In the case of non-partnered individuals once the effect of student loans is allowed for, the share drops further. However, at least for couples there appears to have been an increase in vulnerable families between 2003/04 and 2008, although the absolute numbers are still quite small.
SoFIE contains a module for assets and liabilities. This paper has relied on the data from wave 2. The assets and liability module was repeated in wave 4 and the data is now available. Work is currently underway to use the data from wave 4 to assess the changes in the debt position of households between 2003/04 and 2005/06.
